Speculative mania is setting market up for a major correction, CFRA’s Sam Stovall warns

Speculative investors may face a reality check this month.

According to CFRA’s Sam Stovall, conditions are ripe for a major market correction.

“We are getting a little late into this rally,” the firm’s chief investment strategist told CNBC’s “Trading Nation” on Monday. “Investors will feel that they need to take some profits.”

Stovall sees the mania around the Reddit rebellion as a major red flag. When speculation becomes widespread, he notes it usually indicates investor confidence is too high and prices are too frothy.

“I do believe that [low] interest rates as well as [stimulus] payments and boredom are causing investors to be striving after companies that really don’t have the fundamental underpinnings,” he said. “That could end up being a fairly negative situation for many of the investors left holding the bags.”

Based on the S&P 500‘s 200-day moving average, Stovall calculates stocks would fall at least 10.5% in a swift fashion. That would imply about a 400 point drop from Monday’s close.

Stovall, who has been on Wall Street since 1985, warns the swiftness of the breakdown would take many retail investors by surprise.

He also lists seasonal trends as a near-term bearish driver.

“February is the second worst month of the year — the only one after September to post an average decline,” said Stovall, who notes the negative trend is more pronounced during a president’s first term in office.

Bu there’s a silver lining in Stovall’s pullback forecast. He believes the market would bounce back fairly quickly. Since WWII, Stovall finds pullbacks around 10% typically take one month to go from peak to trough.

The longer-term trend is higher,” Stovall said. “We have a year-end target of 4,080 for the S&P 500.”

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