Investment Strategy

Downgrading IT to neutral based on valuation

On October 30, 2025, we upgraded Emerging Market Equities from unfavorable to neutral, increasing our year-end 2026 price target, while downgrading the S&P 500 IT sector from favorable to neutral.¹

A clear 2026 trend we see is increased technology spending. Our preferred strategy is to stay invested in the trend but occasionally to take profits and rebalance into what are believed to be more attractively priced technology-related sectors and global regions. To that end, emerging-market economies have been increasing their technology focus and look reasonably priced, in our view, even after their upswing from January 2025 to March 2025.

Staying with the valuation focus, our view is that the IT sector now looks rich. Here, we prefer to reduce exposure to a market weight and to reallocate into our other favored sectors, including Utilities, Industrials, and Financials.

Downgrading the S&P 500 Index IT sector

We upgraded the S&P 500 IT sector from neutral to favorable on April 4, 2025, during the negative reaction to the Trump administration’s announcement of U.S. country-specific tariffs. From then through October 24, the IT sector rose over 60%, outperforming the S&P 500 Index by over 25%.

We believe that the sector’s quality characteristics will serve investors well while the AI tailwind likely has legs to drive above-market sales and earnings growth. These positive traits include relatively low debt levels, high free cash flow generation (cash remaining after expenses are paid), and the return of cash to shareholders in the form of share repurchases. Meanwhile, capital expenditures (capex) related to AI continue to rapidly accelerate, with third-quarter reports from major tech companies topping elevated expectations. Longer term, AI infrastructure spending estimates are close to $7 trillion by 2030 (according to McKinsey & Company). Finally, surveys from corporate leaders indicate a significant boost in AI usage over the past two years, resulting in higher productivity.²

Chart 1. IT sector valuations lofty even on a relative basisSources: Bloomberg and Wells Fargo Investment Institute. Data as of October 24, 2025. Information Technology is represented by the S&P 500 Information Technology Index. Avg = average. PE= price-to-earnings ratio. An index is unmanaged and not available for direct investment. Past performance is no guarantee of future results.

However, valuations have surged (see Chart 1), and we are wary that overly bullish sentiment toward the group and elevated expectations make the sector susceptible to disappointment in the near term. Case in point, technology was a major issue in U.S.-China trade negotiations that ultimately resulted in a one-year truce, although tensions between the two economic superpowers remain. More recently, after our downgrade to IT, some AI bellwethers reported massive AI-related capex spending in the third quarter, but investor concerns about future payoffs and debt financing have rattled markets.

Bottom line: The pullback ultimately may prove to be short-lived, but we think the sector remains vulnerable to negative surprises, potentially including even modest misses in corporate earnings reports. We favor locking in recent gains by trimming IT exposure back to the sector’s market weight.

Bubble concerns

The run-up of mega-cap tech stocks associated with AI has understandably led to comparisons with the dot.com bubble of 1999 – 2000. Indeed, there are significant similarities between the two episodes in terms of transformative technologies, stock market performance, and concentration. The 10 largest stocks today in the S&P 500 Index represent around 44% of the index’s market capitalization, similar to the top-heavy weights investors experienced in 1999.

Nevertheless, there are crucial differences to consider. Today’s AI market leaders consist largely of mega-tech companies that are highly profitable with new capex funded mostly through free cash flow — although we see that beginning to transition to more debt financing.

In contrast, stock market drivers of the dot.com era had far more exposure to consistently unprofitable companies, including start-ups and smaller companies, and were primarily funded by debt and venture capital. We continue to believe that comparing today to 1999 – 2000 is premature. By the end of 1999, the equal-weight S&P 500 Index was trending lower even as the capitalization-weighted index trended higher. Fast-forward to today, and we see the equal-weighted index at an all-time high as recently as October 27, 2025. To be clear, we do not know exactly what “inning” this current capex super cycle is in for the moment but continue to believe we are closer to the beginning than the end.

What it may mean for investors

Despite our positive outlook for AI, we are mindful about overpaying for the IT sector, hence, our downgrade to neutral, which represents a full market weight. We favor reallocating to our remaining favorable sectors, Utilities and Industrials, and our most favorable sector, Financials.

The Industrials and Utilities sectors can allow investors to participate in AI through the booming ancillary data center trend, but with lower valuations than IT (see Table 1). We believe Financials can benefit from a steepening yield curve and a more favorable regulatory environment — and also support AI through merger & acquisition activity and debt financing — while trading at a significant discount to the S&P 500.

¹ For more information, see Wells Fargo Investment Institute’s “Institute Alert: Adjusting portfolio guidance, targets, and allocations,” October 30, 2025.

² Wharton Business School. How Are Companies Using AI? A new survey has answers-WSJ, November 3, 2025.

Markets welcome the Fed's end to quantitative tightening

After another rate cut in October, the Fed also announced that their QT program would come to an end on December 1, 2025. Chart 2 shows how the Fed bought securities in 2020-2021, thereby increasing its assets and deploying cash into the economy. Since 2022, however, the Fed gradually has redeemed some of its securities: The issuer pays the Fed the value of the bond, and the Fed keeps the cash. Retiring both the bond and the cash has reduced or tightened the cash in circulation, to help control inflation that peaked in mid-2022. The chart shows how the Fed's assets slowly have shrunk since 2022.

Chart 2. Total assets on Fed balance sheet since 2015Sources: Bloomberg and Wells Fargo Investment Institute. Data as of October 29, 2025. Total assets less eliminations from consolidation. Presented in $Trillions.

Now, the tightening is ending, which means the Fed will roll over some maturing bond holdings. As the Fed rolls these securities, cash stays in the economy to help stimulate spending. Ending QT should also help alleviate a recent scarcity of cash in funding markets.³ We note that the Fed's plan to roll over existing Fed holdings is not the same as adding to those holdings, as the Fed did in 2020-2022, but investors should welcome the policy adjustment.

We believe the Fed’s move to a less-restrictive stance, as well as other factors like tax changes, should be positive for the economy in 2026. As a result, we are generally favorable to economically exposed areas of fixed income, such as Investment Grade Corporate and Securitized Bonds, as credit risks have the potential toward compress on an economic rebound. We continue to favor high-quality investments, even in economically exposed sectors, due to our current economic soft patch. We remain neutral on High Yield Taxable Bonds.

³ Short-Term Funding Markets: Markets where financial institutions borrow and lend funds with maturities typically ranging from overnight to one year. They play a critical role in maintaining liquidity in the financial system and facilitating the smooth functioning of monetary policy.

Is the gold run over?

Gold prices have had a rough spell during these past couple of weeks. After peaking October 20, gold prices dropped over 5% the next day — a rare feat for the yellow metal — and are currently down about 10% (as of November 4). What happened and what do we believe is next?

By October 20, gold was one of the best performing assets year to date, having increased roughly 65%. Measures of investor optimism toward gold — such as fund flows, futures positioning, and technical overbought signals — were extreme. Gold prices reached over 30% above their 200-day moving average — a threshold that was breached only one other time in the past 40 years. Gold was historically stretched. We believe that the most recent pullback has been a much needed and healthy consolidation.

It can take time to shake out those excesses from the system. It would be unsurprising if the price of gold chops around in the coming months before taking the next leg higher. Has there been any change in the bull market story? No. Gold remains the outlet for investor concerns over government debt, geopolitical risks, economic uncertainty, inflation, among other factors, while central bank and investor demand should remain robust. We expect that the gold bull run is not over and forecast that price will reach $4500 – $4700 (per troy ounce) by year-end 2026.

What happened the only other time in modern history that gold was similarly stretched above its 200-day moving average? The year was 2006. Gold peaked, pulled back, and then consolidated for a few months before continuing its secular bull run — gaining another 230% over the next five years between that 2006 low and the bull peak in 2011 (see Chart 3). If history does not exactly repeat, will it rhyme this time around?

Chart 3. Will gold continue to track the 2006 analogue?Sources: Bloomberg and Wells Fargo Investment Institute. Indexed to 100 as of October 20, 2025, and May 11, 2006, gold peak dates. Past performance is no guarantee of future results.

Private real estate settling

The NCREIF Property Index reported a 1.2% return in the third quarter of 2025. This marks the fifth positive quarter following a period of declines in 2023 and early 2024. The NCREIF Property Index seeks to measure the change in market value of U.S. operating private real estate properties owned by institutional investors, offering insight into private real estate market trends.

The latest return was supported by both rental income and stabilizing property valuations. While positive, the result remains below long-term averages observed before the COVID-19 pandemic.

Subindex performance across major property types was consistent, ranging from 0.9% to 1.4% (see Chart 4). The office subindex has shown some recovery as valuation markdowns have eased, but structural challenges persist. Office utilization rates remain well below pre-pandemic levels, vacancy rates are elevated, and loan delinquency rates continue to rise according to PitchBook.⁴ Reflecting these pressures, the office sector’s weight in the NCREIF Property Index has declined to 19%, down from more than 30% before the COVID-19 pandemic.

Industrial and residential subindexes also posted modest returns for the quarter. Residential real estate markets are absorbing significant new supply, particularly in Sun Belt regions, while industrial demand has softened amid economic uncertainty, trade concerns, and high valuations.

It appears that the private real estate market is transitioning into a new cycle after disruptions from inflation, interest rate hikes, and economic volatility in recent years. We maintain our neutral view on the asset class and continue to monitor the future path of monetary policy and economic growth, which influences cost of capital, valuations, and demand.

Chart 4. NCREIF Property Index reported consistent gains across property types in third-quarter 2025Sources: NCREIF and Wells Fargo Investment Institute. Data as of September 30, 2025. An index is unmanaged and not available for direct investment. Past performance is no guarantee of future results.

Alternative investments, such as hedge funds, private equity, private debt and private real estate funds are not appropriate for all investors and are only open to “accredited” or “qualified” investors within the meaning of U.S. securities laws.

⁴ Pitchbook, “Global Real Estate Report,” September 25, 2025.

Cash Alternatives and Fixed Income

Equities

Real Assets

Alternative Investments**

Source: Wells Fargo Investment Institute, November 10, 2025.

*Tactical horizon is 6-18 months

**Alternative investments are not appropriate for all investors. They are speculative and involve a high degree of risk that is appropriate only for those investors who have the financial sophistication and expertise to evaluate the merits and risks of an investment in a fund and for which the fund does not represent a complete investment program. Please see end of report for important definitions and disclosures.

Forecasts and targets are based on certain assumptions and on views of market and economic conditions which are subject to change.

Each asset class has its own risk and return characteristics. The level of risk associated with a particular investment or asset class generally correlates with the level of return the investment or asset class might achieve. Stock markets, especially foreign markets, are volatile. Stock values may fluctuate in response to general economic and market conditions, the prospects of individual companies, and industry sectors. Foreign investing has additional risks including those associated with currency fluctuation, political and economic instability, and different accounting standards. These risks are heightened in emerging markets. Small- and mid-cap stocks are generally more volatile, subject to greater risks and are less liquid than large company stocks. Bonds are subject to market, interest rate, price, credit/default, liquidity, inflation and other risks. Prices tend to be inversely affected by changes in interest rates. High yield (junk) bonds have lower credit ratings and are subject to greater risk of default and greater principal risk. The commodities markets are considered speculative, carry substantial risks, and have experienced periods of extreme volatility. Investing in a volatile and uncertain commodities market may cause a portfolio to rapidly increase or decrease in value which may result in greater share price volatility. Investing in gold other precious metals involves special risk considerations such as severe price fluctuations and adverse economic and regulatory developments affecting the sector or industry. Real estate has special risks including the possible illiquidity of underlying properties, credit risk, interest rate fluctuations and the impact of varied economic conditions. Sector investing can be more volatile than investments that are broadly diversified over numerous sectors of the economy and will increase a portfolio’s vulnerability to any single economic, political, or regulatory development affecting the sector. This can result in greater price volatility.

Alternative investments, such as hedge funds, private equity/private debt and private real estate funds, are speculative and involve a high degree of risk that is appropriate only for those investors who have the financial sophistication and expertise to evaluate the merits and risks of an investment in a fund and for which the fund does not represent a complete investment program. They entail significant risks that can include losses due to leveraging or other speculative investment practices, lack of liquidity, volatility of returns, restrictions on transferring interests in a fund, potential lack of diversification, absence and/or delay of information regarding valuations and pricing, complex tax structures and delays in tax reporting, less regulation and higher fees than mutual funds. Hedge fund, private equity, private debt and private real estate fund investing involves other material risks including capital loss and the loss of the entire amount invested. A fund's offering documents should be carefully reviewed prior to investing.

Hedge fund strategies, such as Equity Hedge, Event Driven, Macro and Relative Value, may expose investors to the risks associated with the use of short selling, leverage, derivatives and arbitrage methodologies. Short sales involve leverage and theoretically unlimited loss potential since the market price of securities sold short may continuously increase. The use of leverage in a portfolio varies by strategy. Leverage can significantly increase return potential but create greater risk of loss. Derivatives generally have implied leverage which can magnify volatility and may entail other risks such as market, interest rate, credit, counterparty and management risks. Arbitrage strategies expose a fund to the risk that the anticipated arbitrage opportunities will not develop as anticipated, resulting in potentially reduced returns or losses to the fund.

NCREIF Property Index (NPI) measures the change in market value of U.S. based investment-grade, income producing operating private real estate properties held by institutional investors. The market value is based on appraisal and quarter returns are time-weighted returns, including both income and capital appreciation before investment management fees. The index consists of 12,923 investment-grade, income-producing properties with a market value of $899 billion. and includes property data covering over 100 markets (core-based statistical areas or CBSAs). NPI provides industrial, residential, office and retail subindexes. For Q3 2025, the market value breakdown by property type is about 18% office, 29% residential, 13% retail, 34% industrial with the remaining 6% consisting of hotel, self-storage, and seniors housing and “other” sectors.

S&P 500 Index is a market capitalization-weighted index composed of 500 widely held common stocks that is generally considered representative of the U.S. stock market.

S&P 500 Information Technology Index comprises those companies included in the S&P 500 that are classified as members of the GICS® information technology sector.

S&P 500 Equal Weight Index (EWI) is the equal-weight version of the widely-used S&P 500. The index includes the same constituents as the capitalization weighted S&P 500, but each company in the S&P 500 EWI is allocated a fixed weight - or 0.2% of the index total at each quarterly rebalance.

An index is unmanaged and not available for direct investment.

Global Investment Strategy (GIS) is a division of Wells Fargo Investment Institute, Inc. (WFII). WFII is a registered investment adviser and wholly owned subsidiary of Wells Fargo Bank, N.A., a bank affiliate of Wells Fargo & Company.

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