Bank of America Hartnett: "Mid-cap stocks" have the highest winning rate before the midterm elections, tech giants are no longer attractive

According to the latest report released by Bank of America strategist Michael Hartnett’s team, as the appeal of tech giants diminishes, U.S. small and mid-cap stocks have become the best investment targets ahead of the mid-term elections.

The team recommends investors adopt a “long Main Street, short Wall Street” strategy, until the Trump administration pivots policy to address affordability issues and boost approval ratings. Hartnett points out that Trump’s “aggressive interventions” to lower energy, medical, credit, housing, and electricity costs are putting pressure on sectors such as energy giants, pharmaceutical companies, banks, and large tech firms, and this environment will make small-cap stocks the primary beneficiaries.

The report especially highlights the structural challenges facing tech giants, noting that these companies are experiencing a shift from asset-light to asset-heavy business models. According to BofA estimates, this year’s AI capital expenditures from big techs total about $670 billion, accounting for 96% of their cash flow, far surpassing last year’s 40%. The strategists bluntly state that these tech giants “no longer possess the best balance sheets, nor the largest stock buybacks.”

Meanwhile, BofA's "Bull & Bear Indicator" rose to 9.6 this week, the highest since March 2006, showing the market has entered an “extremely bullish” area and triggered a sell signal. Hartnett believes that this marks “peak positioning, peak liquidity, and peak inequality” for the market, and that the current market pullback is overdue and healthy.

“Long Main Street, Short Wall Street”

Hartnett’s team has explicitly proposed a specific trading direction: short what they call “Billionaire Bros stocks,” namely Tesla, Palantir, and Nvidia; while going long themes representative of “Main Street,” such as small caps, Real Estate Investment Trusts (REITs), and banks. Hartnett intends to maintain this approach until President Trump’s approval rating improves and he manages a policy adjustment to solve housing affordability problems.

The logic behind the strategy is that investors are worried about potential disruption caused by artificial intelligence and are beginning to rotate funds into areas that can benefit from policies aimed at lowering living costs. Market data shows signs of this rotation; the Nasdaq 100 Index this week suffered its largest three-day decline since April, dropping 4.6%. In addition, since the beginning of the year, the S&P 500 Index has lagged its equal-weighted index by 4.2 percentage points.

The strategists note that in the context of efforts by the Trump administration to lower the cost of living, a broad category of companies sensitive to improved growth prospects is performing well, which gives small and mid-cap stocks the potential to benefit from the “boom” ahead of the midterm elections.

Tech Stocks Face “Cash Flow” Test

The report issues a stern warning about the market leadership of the so-called “Magnificent Seven,” believing the shift to asset-heavy business models poses a “major threat.”

Core data support this view: large tech firms are investing the vast majority of their cash flow (96%) into AI capital expenditures. This high-intensity capital spending means their advantages in balance sheet quality and stock buyback capacity have disappeared. Wall Street is wisely shifting from the spenders on AI to the beneficiaries, from services to manufacturing.

Hartnett expects that while the speculative bubble in the market is fading, key support levels for major assets should hold, such as $133 for the XLK tech ETF and $4,550 for gold. However, he also warns that recently bubbly Asian tech stocks could still face another bout of unstable, extreme position unwinding.

Sentiment Indicators Suggest Caution and Global Asset Rotation

BofA’s Bull & Bear Indicator aims to quantify investor fear and greed. The indicator gave a “sell” signal as early as December 17th, and the current reading further confirms the market’s extreme sentiment.

At the macro level of asset allocation, Hartnett observes that the market is shifting from “American exceptionalism” to “global rebalancing.” His preference for international stocks since late 2024 has proven prescient. The report points out that the current adjustment has erased $2 trillion of crypto market capitalization, equal to 10% of U.S. consumer spending.

Looking ahead to 2026, Hartnett believes the best investment opportunities will be international equities, Chinese consumer concept stocks, and emerging market commodity producers. So far this year, emerging market stocks are up 7%, while global markets outside the U.S. have risen 5%. He cites the end of the Bretton Woods system in 1971, the global financial crisis in 2008, and the pandemic in 2020 as historical events, noting that major geopolitical events often herald significant changes in market leadership.

Risk Warning and DisclaimerThe market involves risk, and investments should be made cautiously. This article does not constitute individual investment advice and does not take into account specific investment objectives, financial situations, or individual needs. Users should consider whether any opinions, views, or conclusions in this article are suitable for their own circumstances. Investment decisions are made at your own risk.