Wells Fargo analysts believe the S&P 500 (SPX) could face an additional 2% downside risk before a potential bounce, citing current technical levels and market conditions in a note Thursday.
According to their analysis, the SPX "probably sees another 2% downside before we can discuss a bounce," with the upcoming Federal Reserve meeting potentially serving as a positive catalyst for the market.
The analysts maintain their SPX price target at 5535, indicating a modest 2% upside from current levels. However, they caution that this is "not enough to put new money to work."
The SPX is currently sitting on its 50-day moving average (DMA), but the speed of the recent sell-off suggests that the market is likely to test its 100-DMA, implying "another ~2% near-term downside."
They believe that if the SPX reaches this level before the July 31 FOMC decision, it might present an opportunity for some near-term upside.
In terms of market performance, Wells Fargo highlights ongoing trends of mega-cap underperformance and small-cap outperformance. Over the past week, mega-caps lagged the SPX by about 0.5%, while small caps outpaced the index by 1%, indicating that there is still room for these trends to continue.
The analysts also discuss their barbell strategy, which has been adjusted to balance exposure across different sectors. Their current barbell consists of Communications (50%), Banks (30%), and Utilities (20%), which has outperformed the SPX by 2% year-to-date, offering downside protection.
Furthermore, Wells Fargo sees midcap growth as a "sweet spot," noting that the S&P Midcap Growth Index (MIDG) has trailed the SPX by only 1.6% year-to-date, compared to the Russell 2000, which lags by nearly 6%. They believe that valuation, technicals, and fundamentals make MIDG one of the best risk/reward opportunities in the equity markets.