Fundstrat's Tom Lee sees a rally, so buy value stocks on the dip

  • Wall Street bull Tom Lee says take advantage of Wall Street's worst day in months and buy value stocks.
  • Lee, Fundstrat Global Advisors' managing partner, calls the steepening of the yield curve a "pretty bullish" sign.

Wall Street bull Tom Lee says take advantage of Wall Street's worst day in months and buy value stocks.

"It's a dip where the [volatility index] has spiked, we've had basically a waterfall collapse, and we know that we're going into this period where 74 percent of active managers are trailing their benchmark," Lee said Wednesday on CNBC's "Fast Money."

"So I think that the urgency or the urge for markets is really to put capital to work to close the market, which means a rally," he said.

The Dow Jones Industrial Average closed down 831.83 points at 25,598.74, near its lows of the day, dragged down by tech stocks, such as Intel and Microsoft, which fell more than 3.5 percent each. The Nasdaq composite plummeted 4 percent to 7,422.05.

The S&P 500 dropped 3.3 percent to 2,785.68, with the tech sector underperforming. The broad index also posted a five-day losing streak — its longest since November 2016 — and fell below its 50-day and 100-day moving averages, widely followed technical levels.

Worries about a sharp rise in interest rates also pressured equities. The 10-year Treasury note yield traded around 3.23 percent a day after hitting its highest level since 2011.

Lee, Fundstrat Global Advisors' managing partner, called the steepening of the yield curve a "pretty bullish" sign.

"You can't fight against an inverted yield curve, because that tells you confidence of the future has gotten so bad that markets are contractionary. The yield curve has been steepening, actually, in this sell-off. I actually find that pretty bullish."

By the end of the year, Lee said, investors will like FAANG names — Facebook, Amazon, Apple, Netflix and Google — which "look really cheap because they probably wanted to buy them at these levels," but into next year, it won't be a growth stock story.

"Next year I think it's a story of markets are broader — it's really narrow this year — and it's more asset-based, which is pro-inflation trades. And it's probably a shift to value. That's one of ... the more important moments that's happening this year," Lee said.

Growth stocks are stocks that command higher premiums for the promise of above-average future returns but don't necessarily boast the same strong fundamental backdrop. Value stocks, on the other hand, boast low price-earnings ratios and other traditional assessment metrics, often looked upon as undervalued relative to its underlying fundamentals.

Lee's sentiments echo those of Morgan Stanley's Mike Wilson, who wrote in a note Tuesday that the rise in interest rates may have created a tipping point for stocks, where the decade-long investment theme favoring growth over value is changing, according to Morgan Stanley.

"With S&P 500 upside capped on a valuation basis, it's more likely that Value outperforms by going down less or simply not going down," he wrote, saying he sees more downside for small caps and high multiple growth cyclicals such as technology and consumer discretionary.

— CNBC's Patti Domm and Rebecca Ungarino contributed reporting.