Volatility in the bond market could push the S&P 500 down by between 5% and 10%, Mike Wilson, of Morgan Stanley, said.

Morgan Stanley's Mike Wilson said a correction in the S&P 500 might be exactly what's needed to finish the year off stronger than ever.

Since early this month, the U.S. bond market has experienced a historic selloff, with the yield on the 30-year Treasury BX:TMUBMUSD30Y hitting a 22-year high and the 10-year BX:TMUBMUSD10Y reaching a level not seen since 2007.

For the chief U.S. equity strategist and chief investment officer at the New York-headquartered investment bank, if yields don't soon start to ease, the stock market could become more volatile, dragging the S&P 500's price SPX down by between 5% and 10%.

"Frankly, I would welcome it," he said in a recent episode of the Thoughts on the Market podcast. "A final index-level correction is often how a multi-month correction beneath the surface ends."

The yield on the two-year Treasury is already higher than the path projected by the Federal Open Market Committee's forecasts, Wilson pointed out. Early on Tuesday, the yield reached 4.941%, well above the central bank's median forecasts of 4.1% in 2026 and 2027 and 3.9% in 2028.

"To me, this suggests the bond market has been leaning too hawkish in the near-term," he said.

Investors should be watching out for bond volatility and funding stress and whether they're accompanied by fluctuation in the stock market, Wilson said.

"If those pressures ease, breadth can catch up and drive the market higher," he said. "If they do not, the index probably has more correcting to do."

"Groups that have led powerfully from the rolling recession trough have been among the weakest areas recently," Wilson added, outlining sectors like automotives, semiconductors and industrials. He said this normally happens when the cycle matures and the Federal Reserve starts raising interest rates.

Instead, the market begins rewarding stable profit margins, free cash flow, operating efficiency and raised earnings forecasts, Wilson explained.

"That's why I continue to favor large-cap quality, particularly, asset-like, services-oriented and fee-based businesses," he said.

-Nora Redmond