Jim Paulsen is on watch for runaway inflation.
In a note to clients this week, the Leuthold Group chief investment strategist warned it's the biggest risk facing the bull market, and the stakes couldn't be higher for investors.
"I would put decent odds that it could get out of control and require the Fed and other policy officials [and] the bond market to kneejerk in order to shut down the overheat," he told CNBC's "Trading Nation" on Wednesday.
Paulsen, who oversees about $1 billion in assets, puts the probability of runaway inflation at around 40%. He questions whether the Federal Reserve's transitory inflation stance is correct. Paulsen is worried aggressive monetary and fiscal policies provided too much juice.
"Everyone looks at the policy that we put in place here as just so oversized and dramatic," he said. "That takes us right back to the inflationary period of the 1970s."
Commodity prices are on fire over the last six months. Lumber prices are surging 195% while WTI crude oil is up 71%.
Even though Paulsen is flagging inflation risks, he sees signs the U.S. economy may be able to weather them. He chalks it up to a vastly different economy than about a half century ago led by the baby boomer generation.
"They went into their peak spending years, driving the economy faster than it could handle. We have maybe 1 percent labor force growth, and it's being driven by an aging demographic today," he said "There's not much hope in the future years of it picking up a lot."
Paulsen sees productivity increasing over the next several years due to the impact of technological innovation.
"Our leading industry is technology, and the tagline is sticker prices go down every year," he said. "We're seeing that influence other prices as well."
He also credits global ties.
"Today, we're very much an open economy and our biggest companies compete all over the world which is a disinflationary force," said Paulsen.
If inflation is temporary, Paulsen believes the bull market will last for years.
"The upside here could be pretty big because we could end up in a world with above-average growth with relatively low yields and low inflation," he added.
For now, Paulsen remains bullish on the economic recovery and the stock market while being vigilant regarding inflation.
"We're going to have to probably wait probably into next year to get a better handle on whether this is just a transitory event," Paulsen said.