Morgan Stanley’s strategists are sounding the alarm: the stock market’s recent run-up has left equities vulnerable to a potentially large decline, driven by a global bond selloff that shows no signs of letting up.
Rising bond yields compress stock valuations, and right now, those valuations don’t have much room to compress before things get ugly.
The bond-stock feedback loop
Morgan Stanley has flagged instances of simultaneous declines in stocks and bonds, particularly when growth and inflation trends align in ways that punish both sides of the ledger, weakening the 60/40 portfolio strategy where 60% of holdings sit in equities and 40% in fixed income.
The firm points to a specific dynamic that unfolded earlier this year. A duration rally in February, where longer-dated bonds gained value as investors bet on falling rates, completely reversed course in March. US 10-year breakevens, a market-based measure of expected inflation over the next decade, climbed to 2.31%. Yields broke out of their recent trading ranges.
