Michael Wilson, the chief equity strategist for Morgan Stanley, says the 10-year Treasury yield marking new highs last week was the tipping point for the stock market, which will enable “the rolling bear market to complete its unfinished business in these last bastions of safety.”

The “S&P 500, as a whole, had become overvalued for the first time since January.”

We’ve often found that it’s not the magnitude of the rate move that matters most for financial markets, but its speed. Last week’s surge checks both boxes—it was big and fast!

Wilson has been recommending investors fade the areas of relative strength in global equity markets like U.S. small caps, tech and consumer discretionary shares, essentially recommending value over growth on a global basis.

Over the past 10 years, growth stocks have absolutely trounced value stocks worldwide. In the era of below-trend GDP growth and negative real interest rates, it was logical for investors to favor a barbell of steady income and growth stocks. Therefore, early in the recovery from the financial crisis, this led to extraordinary performance in bonds and income, producing stocks known as the “dividend aristocrats.” Growth stocks also enjoyed most-favored-nation status.

Yet as interest rates rose from their summer 2016 lows, bonds and the dividend aristocrats started losing their luster while growth stocks continued attracting  capital, re-rating even higher.

I think this disconnect made sense when rates were still very low. Bonds and bond proxies are sensitive to moves higher in interest rates from any level, while growth stocks remain immune until rates cross a certain threshold. Was that level breached last week? We think the answer is yes, because growth stocks now are less attractive while many discarded value stocks, like financials, become more appealing. It’s notable that last Thursday the MSCI World Value Index had its greatest one-day outperformance relative to MSCI World Growth since May 2009.

The kicker, Wilson says, is the “S&P 500, as a whole, had become overvalued for the first time since January” in the month of September.

This overvaluation was apparent as yields on the 10-year broke through the 3% barrier. Small caps had already been underperforming for several months, but as rates moved above 3%, their underperformance accelerated. With last week’s surge toward 3.20%, weakness finally came to the high-flying growth stocks where valuation is the most stretched.

Growth stocks being arguably the longest-duration assets in the world, it’s reasonable to assume they would eventually succumb to higher rates, Wilson said.

We just didn’t know at what level it would happen. Much as in January, when a sudden move higher in the 10-year yield led to a rapid and
broad 12% correction in US equity valuations
, we see a similar risk for the smaller cadre of stocks and assets that have maintained their valuations since the January highs or moved higher.

This was precisely our call back in July when we downgraded US small caps and Tech stocks. At the time, we thought the valuation gap would close as the sustainability of growth was called into question. However, the break higher in interest rates last week appears to be the tipping point, enabling the rolling bear market to complete its unfinished business in these last bastions of safety.