U.S. stocks look cheap relative to the "rich" bond market, but the cost of no "fiscal cliff" deal in Washington could send equities down "two to three percent," perhaps as much as five percent, Appaloosa Management Founder David Tepper told CNBC in an exclusive interview on Monday.
But putting things in perspective, the hedge fund titan said on "Squawk Box" that he doesn't see "very much downside" in the stock market.
"This market is a very good market. And once we can get over this hump, we could have Prince," he said, making reference to the Prince song "Party Like It's 1999." The S&P 500 Index rose nearly 20 percent that year. (Read more: Fisher Says Fed Risks 'Hotel California' Monetary Policy).
Tepper said the credit markets aren't in a bubble, but they're rich right now.
Appaloosa is a powerhouse with $16 billion under management. This year, Appaloosa is said to be on pace for a 25 percent gain during a year that's been tough for hedge funds overall. The industry is up just 5.77 percent, according to Hedge Fund Research. The S&P 500, by comparison, has increased about 13 percent so far this year.
What Tepper says can move the markets. Case in point, the last time he was on "Squawk Box" in September of 2010, he made bullish comments about stocks, sparking what was dubbed "The Tepper Rally." Since then, the S&P 500 gained about 25 percent.
Turning to the economy, Tepper said during Monday's interview that it has some tailwinds behind it, but he questioned whether the U.S. Federal Reserve needs to "do anything more now" — referring to the central bank's bond buying program, which is projected to add about a trillion dollars a year to the Fed's balance sheet.
In addition to extending its bond purchases, the Fed also announced last week that it plans to keep interest rates near zero until the nation's unemployment rate drops below 6.5 percent or inflation raises above 2.5 percent.
Tepper said the Fed has made it clear that "they're going to keep on doing this until the unemployment rate goes down." Tepper said he bets the tigger will be a jobless rate of 6 percent.
The key to the future direction of the economy and stocks is what happens in Washington, he said, saying President Barack Obama needs to take the lead on avoiding the fiscal cliff and get a deal done.
Tepper was encouraged that Republicans are signaling that an agreement to avoid the automatic tax increases and spending cuts next year might include a provision to increase the debt ceiling as well, giving both sides time in 2013 to hash out a longer-term fix of America's debt crisis.
"It was cheerful to know that they're talking about not having another deadline in two months ... If you can get something done without that [debt ceiling] deadline [looming], it's a really good thing not only for the markets but for the real economy."
—By CNBC's Maneet Ahuja at
@WallStManeet
and Matthew J. Belvedere at
@Matt_SquawkCNBC
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