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Why Fed trade reminds me of 2007, 2008: El-Erian

Don't fight the Fed. The old investment axiom has been playing out on Wall Street as investors bet on lower interest rates for longer. But former Pimco co-CEO Mohamed El-Erian warned Tuesday that there's risk.

"The market is in love with the central bank trade because it has paid off," he argued—saying Monday's session was a perfect example. A triple-digit drop in the Dow Jones industrial average on the weak jobs report turned into a 117-point gain at the close, after New York Fed President William Dudley expressed concern about the March labor slowdown and whether it signals further trouble.

"It reminds me a little bit of 2007 and 2008," when investors tried to market time the turn, El-Erian told CNBC's "Squawk Box" in an interview. "I'm not so confident that I will see the turn coming, and turns tend to happen quite quickly."

Read MoreDire costs of easy Fed now and later: Jim Grant

As for the Federal Reserve's rate strategy, what policymakers are likely to do is not what they should be doing, he said.

The terrible jobs report—released when the stock market was closed for the Good Friday holiday—will likely mean a rate hike in September, not June, predicted El-Erian, chief economic advisor at Germany-based Allianz, the parent company of Pimco.

When the Fed does move, it will do so cautiously, he added, with policymakers stressing the "relatively shallow path" away from near-zero percent rates to what's expected to be "lower than the historical average" rates at the end of the tightening cycle.

"But what they should do is something different," El-Erian argued. The Fed needs to be less timid, he said, "and recognize the main risk to this economy comes from mounting financial imbalances that could threaten instability down the road."

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