Hedge funds are taking money out of the market—and that's a good sign, Fundstrat founder Tom Lee told CNBC on Tuesday.
"It's bullish in the sense that markets are capable of rising while a very large player in the marketplace is de-risking, and that is going ot provide fuel later as they sort of re-risk and add buying power to the rally," he said in a "Squawk on the Street" interview.
Fundstrat reported that hedge funds are pulling money out of equities based on anecdotal evidence and moves in the hedge fund tracking beta to the S&P 500, which has declined to the lowest levels in roughly six months, Lee said.
The firms are de-risking on the chance of an "idosyncratic event," such as a Greek exit from the euro zone, a deflation surprise somewhere in the world, or an incident tied to geopolitical risk, Lee explained. The belief is that such an event could cause a correction.
However, Lee said he would buy into a dip because he believes Europe is prepared for a "Grexit" and its central banks are about to engage in bond buying, reducing the risk of deflation. He also said geopolitical risks never have long-lasting effects on markets.
The players buying equity positions as hedge funds sell have been spurred by normalizing interest rates, falling oil prices and a recent rebound in the high-yield market, he said.
"I think there's a story about capacity utilization tightening, as well. That's going to give us a better signal about U.S. fundamentals. Then we'll see the hedge funds come back into the market," he said.
As for when the Federal Reserve should raise rates, Lee said confidence is fragile and the market does not have strong core inflation signals, so it is not yet time for a hike.
However, he still sees monetary policy tightening, when it happens, as a bullish signal because he believes the Fed will only raise rates when it has confidence the economy is sound. That action will signal that the United States has entered a cycle of rising prices, prompting investors to buy into the market, he said.