Equity investors are hurtling toward a dangerous precipice, ignoring glaring warning signs as stocks hover at their most overvalued levels compared to corporate and Treasury bonds in over two decades. The S&P 500’s earnings yield—a critical valuation measure—is scraping the bottom of the barrel, now at its lowest compared to Treasury yields since 2002. Put plainly, stocks are ludicrously expensive, and the math doesn’t like them.

At a mere 3.7%, the S&P’s earnings yield barely holds a candle to the 5.6% yield on BBB-rated corporate bonds. This inversion in the risk-reward equation is not just unusual; it’s an ominous precursor to market turmoil. Historically, equities have had to compensate for their inherent volatility by offering higher yields than even the riskiest corporate debt. The fact that this is no longer the case should make alarm bells ring.

The widening chasm between equity earnings yields and benchmarks like 10-year and 2-year Treasury yields paints an even bleaker picture. This disconnect has, without exception, preceded severe market corrections. Yet, investors continue to plough money into an overvalued market, seemingly blinded by overconfidence or outright delusion.

The gap between S&P earnings yields and BBB corporate bond yields has been negative for two years now, a rare and unsustainable anomaly. While such misalignments can persist, they remain a glaring indicator of a bloated stock market on borrowed time. Strategists, including Morgan Stanley’s, have already warned that rising yields and a strengthening dollar are eroding corporate profits and dragging down valuations. But who’s listening?

In December, the Federal Reserve fired a clear warning shot, announcing a slower pace of rate cuts. The market’s response? A near 3% collapse—the worst trading day since 2001. But instead of taking stock (literally), investors brushed off the reality check, doubling down on overpriced equities and speculative assets like cryptocurrencies. The S&P trades at an eye-watering 27x trailing earnings, a staggering leap from its 20-year average of 18.7x.

Adding to the insanity, equitiy market reached record highs 57 times in 2024, defying fundamentals. Meanwhile, initial coin offerings (ICOs) surged as investors scrambled for riskier bets. This is not a bull market—it’s a bubble begging to be popped.

Corporate bond risk premiums are near historic lows, while Treasuries face relentless pressure, driving yields higher. The math is simple: their valuations must tumble for stocks to stay competitive. The Treasury yields rising, equity valuations have no choice but to adjust downward. It’s only a matter of time. Some argue that corrections take years, pointing to the 1990s when negative yield gaps persisted for a decade. But today’s hyperconnected, data-driven markets move faster. The world is different, and so is the risk. Relying on outdated historical comparisons ignores the speed at which sentiment—and capital—can shift in today’s financial landscape.

The so-called “Fed model,” which compares equity earnings yields to bond yields, remains controversial. While it’s useful for assessing relative value, it fails to account for inflation. Rising prices gnaw away at fixed-income returns, while equities face more nuanced pressures. But nuance doesn’t change the fact that today’s valuations are absurdly inflated.

Even if the market avoids an imminent collapse, the outlook for long-term growth is grim. Goldman Sachs has already sounded the alarm, predicting a paltry 3% annual return for the S&P 500 over the next decade. With bond yields climbing, equity prices will have to fall to remain viable—a stark reality that investors seem determined to ignore.

The harsh truth is that the stock market’s current trajectory is unsustainable. Every indicator—from earnings yield gaps to bond market pressure—screams overvaluation. Investors may be betting on borrowed time, but gravity always wins. The only question is not whether the correction will come but when. And when it does, the fall could be swift, brutal, and unforgiving.