The bond market is signaling an upcoming correction and investors should sell their shares in listed companies, a strategist told CNBC Tuesday.
Borrowing costs have gone up over the last few weeks, with the yield on both the 10-year U.S. Treasury note and the two-year bond reaching multiyear highs last Friday. Higher yields, which move inversely to bond prices, pose a risk for equity markets, given that they mean higher costs for companies and, thus, fewer chances for shareholders to make profits.
At the same time, the difference between long and short-term borrowing costs keeps narrowing, in what investors describe as a flattening of the yield curve. This indicates that investors see debt that is to be repaid in two years being nearly as risky as lending it for 10 years.
In a normal, functioning economy, lending in the short term has fewer risks the underlying thought is that you can more easily predict what’s happening tomorrow rather next month.
“Yields are going up and the yield curve is flattening, you very rarely get good outcomes from this,” Michael Howell, chief executive officer at Border Capital, told CNBC’s “Squawk Box Europe” Tuesday.
“I am dancing closer to the fire exit than I have been for some time.” -Neil Dwane, Global strategist at Allianz Global Investors
He added that those fully invested in equities should be “very worried.” Apart from the uptick in yields, there is a group of factors posing the seeds for a potential correction. These are: higher risk appetite, reduced capital flows and a continued monetary policy tightening from central banks, Howell said in a note.
Jin Lee | Bloomberg | Getty Images Traders work on the floor of the New York Stock Exchange in New York, U.S.
The most influential central banks across the world are set to slowly end the era of cheap money, by increasing borrowing costs. Ultimately, this could exacerbate the problem of higher yields even more.
Neil Dwane, global strategist at Allianz Global Investors, told CNBC that the markets haven’t fully understood that central bank policy is changing.
“We are concerned the market is understating the impact of quantitative tightening, particularly in the U.S.,” he said, adding, “I am dancing closer to the fire exit than I have been for some time.”
Amid expectations of a storm in equity markets and higher short-term yields, Howell suggested investors should exit the equity market.
“Take your money off the table,” he said, adding that investors should then only put that money back after a correction has taken place.