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Investing.com -- Wells Fargo analysts believe it is time for investors to reduce their exposure to U.S. small-cap equities following a strong rebound since early April.
“U.S. Small Cap Equities have performed on par with U.S. Large Cap Equities since the market bottomed on April 8,” the firm wrote, with both categories rising about 20% from April 8 through May 20.
The rally has been fueled by “the abatement of tariff fears; better-than-expected economic data; and an all-around solid earnings season,” according to Wells Fargo (NYSE:WFC).
These factors have “reinvigorated market sentiment around U.S. Small Cap Equities.”
“We view the recent rally in U.S. Small Cap Equities as an attractive opportunity to trim the asset class back to recommended portfolio allocations,” added the bank.
Still, the firm maintains a neutral tactical rating on the asset class, cautioning that the rally may not be sustainable.
“It remains the case that tariffs have been more aggressive than we initially thought,” Wells Fargo warned, adding that “earnings revisions continue to deteriorate on higher-than-expected interest rates and tariff rates.”
While positives like “looming deregulation, lower short-term interest rates and a cyclical recovery in late 2025 into 2026” are supportive of small caps, these are balanced by persistent macro headwinds, according to Wells Fargo.
Given this environment, the bank recommends reallocating from small caps to other areas. “We continue to favor U.S. Large Cap and U.S. Mid Cap Equities,” the analysts wrote. “We would use this opportunity to trim small cap holdings back to long term target allocations, and reallocate into large- and mid-cap equities.”