Why the S&P 500 could drop by 10% by the end of 2024 — and 4 trades to cash in on the turbulence

• Stifel's Barry Bannister predicts the S&P 500 will drop to 5,000 by year-end.
• Bannister cites poor market breadth, high valuations, and political risks as factors.
• He recommends defensive value stocks in healthcare, utilities, consumer staples, and real estate.

Don't expect the stock market's seemingly unstoppable rally to continue through the end of the year, says Stifel's Barry Bannister.

The investment bank's chief US equity strategist told Business Insider on Tuesday that his S&P 500 year-end target remains 5,000, around 10% below the market's closing level of 5,570 on Thursday.

That may sound unlikely on the heels of the index's 18% returns year-to-date. But Bannister unpacked several risks facing the markets that he thinks investors are underappreciating.

For starters, investors have been anticipating rate cuts for months now, which has driven up market valuations. Market breadth has also been poor, by some measures — Bannister cited the Value Line Geometric Index, which tracks the market's mean stock, delivering barely-positive returns year-to-date.

He said both of these things set the market up for a pullback in either an inflationary or falling growth scenario, the latter of which is more likely by Bannister's measure.

Further, Bannister believes there's an "inordinate" amount of political risk with the election approaching. Both Vice President Kamala Harris and former President Donald Trump are "agents of change," he said, and this will be the most consequential election in terms of the policy route the US takes since 1980.

In a Harris presidency, for example, Trump's 2017 tax cuts would likely expire, meaning a broad tax hike from current levels. Meanwhile, Trump would be more likely to deliver a new tax-cut plan if he had support in Congress.

"This is one of those moments where the two visions are just absolutely diametrically different," he said.

Geopolitical turmoil could also heat up further after the election, according to Bannister, because countries are less likely to face backlash during the lame duck period.

"If Russia makes a countermove in Kursk, it would probably be between the election and January," Bannister said. "We know that Iran is likely to respond to some of the recent Israeli actions between the election and January."

China will also decide on stimulatory economic policy based on who wins, he said. For instance, it will be less likely to devalue its currency under a Trump presidency.

While Bannister does not see a recession as his base-case scenario, the risk of one is there, and would mean even more downside for stocks, he said in an August 5 note.

"Though we describe a low double-digit correction there is also risk of a bear market if the slowdown becomes a recession which, by history and definition, would be a surprise to investors and the Federal Reserve," he wrote.

4 trades to make amid market turbulence

With the market poised for a turbulent period ahead, Bannister said he prefers defensive value stocks, particularly the healthcare, utilities, consumer staples, and real estate sectors. Defensive stocks, which are those whose performance are not impacted by economic cycles, should get a boost from recession fears, and value stocks, which trade at a discount, benefit from lower inflation, he said.

But it's important to get ahead of these trades, he added, because much of the gains occur before the market or economic turmoil happens.

"Seventy percent of all the outperformance of defensive or value occurs before a recession is actually declared," Bannister said. "So while we're not calling for a recession, it pays to be preemptive with that group because they tend to outperform quickly."

He added: "This is a nice place to be during a correction."

Examples of funds that offer exposure to the above sectors include the Invesco S&P 500 Equal Weight Health Care ETF (RSPH); the Utilities Select Sector SPDR Fund (XLU); the iShares S&P 500 Consumer Staples Sector UCITS ETF (IUCS); and the Vanguard Real Estate ETF (VNQ).