Stocks are headed to new records as inflation is crumbling and Fed can breathe easier, Fundstrat's Tom Lee says

• The S&P 500 is headed for a new all-time high as inflation continues to drop, Fundstrat's Tom Lee said.
• Lee predicted the index would notch 4,825 by year-end as stocks clear three key hurdles.

The stock market is on the path to a new record, thanks to withering inflation that shows the Fed's war against high prices is finally paying off, according to Fundstrat's head of research Tom Lee.

In an interview with CNBC on Wednesday, Lee reiterated his view that the S&P 500 could hit a new all-time-high and end the year at 4,825, implying an 8% increase from current levels.

That's largely due to cooling prices in the economy, Lee said, pointing to the June Consumer Price Index report. Headline inflation eased to 3% and core inflation eased to 4.8%, in line with Lee's estimate for the month.

The S&P 500 has three big tailwinds boosting it on the path to new record highs, Lee said.

1. Inflation keeps cooling

The results seen in the June CPI report are "likely repeatable," Lee said, predicting a 0.2% price drop in the July and August core inflation measures.

2. The Fed pulls back on interest rate hikes

Fed officials have raised interest rates from zero to more than 5% in the last year to lower inflation, a move that weighed heavily on stocks in 2022.

But crumbling inflation gives the central bank leeway to pause further hikes or even cut interest rates, Lee suggested, especially considering the drop in core inflation, which shows that inflationary pressures in the economy are receding.

3. The US avoids a recession

Commentators have been warning of a recession for the last year as high rates threatened to push the economy into a downturn. But businesses have been careful to protect their profits, which has lowered the odds of recession, Lee said.

"I think if a recession is not imminent, then I think a lot of folks are offsides and I think that's what propels markets to all time highs," Lee said. "I think that the Fed can actually breathe a little easier because the economy hasn't been destroyed," he later added.

Lee predicted the Fed would hike rates another 25 basis-points in July to assert its credibility on lowering inflation, which could possibly be followed by another rate hike in September. That will weigh on stocks less than the Fed's interest rate moves did last year, he said, as markets only have another 25 or 50 basis-points of tightening to go.

"It's a lot less damage to the system," he said. "Either way… we can still see earnings grow and get to all-time-highs."

Lee has been among the most bullish voices on Wall Street, as other commentators warn inflationary pressures could still be lingering in the economy. In 2022, Lee predicted the S&P 500 would notch a new all-time-high, though the benchmark index actually ended the year 20% lower.