Stocks look overvalued given higher interest rates have boosted bonds' appeal and caused headaches for companies, JPMorgan's Marko Kolanovic says.
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The risks to holding stocks heavily outweigh the likely rewards, and a recession seems inevitable, one of Wall Street's top experts has warned.
"Could there be another 5%, 6%, 7% upside in equities? Of course," Marko Kolanovic, JPMorgan's chief market strategist and co-head of global research told CNBC on Thursday. "But if there is a downside, it could be 20% downside."
Current stock valuations seem way too high given investors can earn solid, risk-free returns from Treasury bonds and savings accounts, Kolanovic said. Moreover, the Federal Reserve — which has hiked interest rates from almost zero to over 5% since last spring to beat back inflation — could lift rates further.
Higher rates typically weigh on stocks because they boost yields from others assets including government bonds and cash. They can also hit corporate sales and profits by encouraging people to save instead of spend, and by raising interest costs for companies.
Kolanovic asserted the US economy is deteriorating, and that's likely to be a drag on the stock market too.he economic backdrop is also deteriorating.
"We do think that recession will eventually happen," he said, emphasizing that rising prices are squeezing Americans' finances, and delinquent payments on credit cards and other loans have ticked upward.
"Recession, I'm not sure how we're going to avoid it if we stay at these levels of interest rates," he added.
The benchmark S&P 500 and tech-heavy Nasdaq Composite have surged 17% and 26% respectively this year, almost entirely due to strong gains from Tesla, Nvidia, and the handful of other mega-cap technology stocks that have been dubbed the "Magnificent Seven."
Kolanovic warned against buying the Big Tech stocks at their current levels. He cautioned they're likely to tumble if a recession does hit, and if the economy holds up, beaten-down sectors like consumer staples and utilities will lead the market rally.
The veteran strategist issued a similar outlook in June, arguing that a recession would probably be needed to bring inflation under control, and several factors were threatening to hit stocks.
"We maintain a defensive asset allocation and believe the risk-reward for equities remains poor given the disconnect between equities and bonds, high likelihood of a recession over the coming quarters, high rates, tightening liquidity, rich valuations, and the still-narrow market breadth," Kolanovic wrote at the time.
