A further rise in long-term U.S. Treasury yields toward 5% could trigger a sharp de-risking across equities and send the S&P 500 down as much as 20%, according to Phillip Colmar, a partner at market research firm MRB Partners.
The warning comes after a turbulent week in bond markets, with investors increasingly focused on the combination of elevated inflation, strong economic growth expectations and rising U.S. government debt.
The benchmark 10-year Treasury yield climbed above 4.7% this week, while the 30-year yield moved above 5.2%, increasing pressure on equity valuations and raising concerns about how much higher borrowing costs could affect corporate investment and profits.
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Colmar said stocks could be “on the brink” of a de-risking episode if long-term yields continue to rise.
“If it looks like it’s going up and it’s not going to be stopped, you could end up with a de-risking event that starts below 5%,” Colmar told Business Insider, referring to the 10-year Treasury yield.
He estimated that a move toward 5% could ultimately result in a 15% to 20% decline in the S&P 500, although he did not make a specific forecast for where Treasury yields will settle.
The warning comes at a particularly sensitive point for equity markets. Investors have spent much of the past year placing large bets on artificial intelligence, expecting rapid productivity gains and strong earnings growth from companies building AI infrastructure and applications.
Higher long-term yields threaten that trade by changing the relative attractiveness of stocks. Treasury securities are generally viewed as the benchmark risk-free asset, so when their yields rise, investors can demand higher expected returns from equities to compensate for taking additional risk.
The effect weighs largely on growth stocks, whose valuations depend heavily on earnings expected several years into the future. Higher discount rates reduce the present value of those future earnings, putting pressure on companies with high valuations and long-duration growth expectations.
The AI sector is especially exposed because the industry’s expansion requires enormous amounts of capital.
Technology companies are spending heavily on data centers, computing infrastructure, chips, and electricity capacity to support sophisticated AI systems. Much of that investment is expected to generate returns over several years rather than immediately.
Higher financing costs could therefore reduce returns on invested capital and make it more difficult for companies to justify the scale of their spending.
Colmar said the combination of elevated expectations and rising borrowing costs could create an “air pocket” in the market.
“You just end up with an air pocket between what might be a decent theme, but expectations were just too high and they can’t be met now,” he said.
That dynamic could be especially damaging if investors begin lowering earnings forecasts for AI companies at the same time that they demand greater discipline over capital spending.
The concern is not necessarily that the AI investment cycle will collapse. Rather, higher rates could force investors to reassess how quickly companies can turn enormous infrastructure spending into revenue and profits.
The Treasury’s response to rising long-term yields could also become a source of market uncertainty.
Treasury Secretary Scott Bessent said this week that the department would increase its bond buybacks in an effort to reduce the supply of longer-dated securities available in the market. Lower supply can support bond prices and, in turn, put downward pressure on yields.
Colmar warned, however, that the policy could have the opposite psychological effect if investors interpret the move as an attempt to suppress yields without addressing the underlying reasons for the increase.
He also pointed to the lack of coordination with the Federal Reserve, which has been allowing Treasury securities to mature and roll off its balance sheet as part of its quantitative-tightening process.
If investors conclude that the Treasury is becoming increasingly concerned about the level of long-term yields, the intervention could undermine confidence rather than restore it.
“The market sniffs out the panic,” Colmar said.
The underlying drivers of higher yields are considered important. Rising government borrowing needs increase the amount of debt that investors must absorb, while expectations for stronger economic growth can push yields higher by reducing expectations for monetary easing.
Persistent inflation creates another challenge because investors demand greater compensation for holding long-duration bonds when they believe purchasing power will erode more rapidly.
The U.S.-Iran war has added another inflationary dimension by increasing uncertainty around energy prices and supply chains, further complicating the outlook for inflation and interest rates.
A sustained rise in long-term yields would therefore create a difficult environment for both bonds and equities. Higher yields can attract capital away from stocks while simultaneously increasing the discount rate used to value companies and raising financing costs across the economy.
Colmar remains positioned for economic growth rather than an immediate recession, but he recommends investors reduce exposure to areas most vulnerable to higher rates if Treasury yields continue to rise.
One strategy is to trim exposure to AI stocks and increase allocations to defensive sectors, with healthcare among his preferred areas because of its relatively lower sensitivity to interest rates. Financial stocks could also benefit from a higher-rate environment, depending on the shape of the yield curve and the effect of borrowing costs on banks’ net interest margins and credit quality.
Exchange-traded funds such as the Vanguard Health Care ETF and Financial Select Sector SPDR Fund provide exposure to those sectors.
The broader message from the bond market is that the next major risk to equities may not come from an abrupt deterioration in economic growth. It could instead come from a gradual repricing of the cost of capital.
That matters for investors because a strong economy can coexist with falling stocks if Treasury yields rise quickly enough. In such an environment, corporate earnings may continue to grow while equity valuations contract as investors demand greater returns to compensate for higher interest rates.
The AI sector has benefited from expectations of enormous future earnings, but those expectations are increasingly being tested against the cost of building the infrastructure needed to produce them.
If the 10-year Treasury yield approaches 5%, investors may begin asking whether projected AI returns are large enough, and arrive quickly enough, to justify current valuations and capital spending. That could turn higher bond yields from a macroeconomic concern into a direct threat to one of the market’s most crowded investment themes.