(Bloomberg) -- With the S&P 500 Index coming off its best stretch in nearly four decades, the road gets tougher for investors as the calendar flips to February — historically one of the rockiest times of the year for US stocks.

After a torrid rally of almost 20% since October that took the S&P 500 to its first records in two years, there’s ample reason for concern: Artificial-intelligence hype came in for a reality check with the latest batch of big-tech earnings; fevered speculation that the Federal Reserve would start easing next month has gone cold; and valuations remain elevated relative to history, evoking memories of the dot-com bubble for some strategists. 

And then there’s February’s rough history — it’s the third-worst month for the S&P 500 in the past 30 years, behind September and August, data compiled by Bloomberg show.

Some of Wall Street’s biggest optimists are growing worried that the enthusiasm that drove the surge to all-time highs is sending a contrarian signal. In the week through Jan. 30, a ratio of bulls to bears identified in an Investors Intelligence survey of newsletter writers hit its highest since around mid-2021, months before stocks neared their prior peak, Yardeni Research analysis shows.

“There’s a ‘rah-rah’ mob mentality in the stock market, with some traders drunk on their own wine,” betting on Fed easing as soon as March and upwards of six cuts this year, said Nick Giacoumakis, president of NEIRG Wealth Management. “That’s totally unrealistic. If you keep buying Big Tech stocks at these levels, you’re asking for trouble.”

This month is off to a banner start, with the market wrapping up its 13th gain in 14 weeks. The S&P 500 hasn’t seen a streak like that since 1986. 

Solid earnings from Meta Platforms Inc. and Amazon.com Inc. drove the strength at the end of last week, after Microsoft Corp., Alphabet Inc.’s Google and Advanced Micro Devices Inc. released results that fell sort of investor expectations on AI.

February has a tendency to start on a high note, although the strength typically fades around mid-month as investors book profits, according to Jeffrey Hirsch, editor of the Stock Trader’s Almanac. That’s particularly the case if stocks get a boost in January — like they often do — following tax-loss harvesting in December. 

Red Flags

For the skittish camp, the latest signals from the Fed are a source of angst.

Fed Chair Jerome Powell suggested last week that the central bank wasn’t about to lower rates anytime soon, and that was before Friday’s blockbuster jobs report. After that data, swaps traders chopped the probability of a March rate cut to around 20%, and no longer see a May reduction as a done deal.

For some would-be dip-buyers, that raises red flags, especially with the latest Deutsche Bank AG data showing that aggregate equity positioning among rules-based and discretionary funds is in the top quarter of observations going back to 2010. The bullish skew raises questions over who’s left to buy after fund managers piled into stocks at a furious pace in November, December and January.

“I really hope we get a correction in the stock market soon,” said Nancy Tengler, chief investment officer at Laffer Tengler Investments. “A selloff may not feel good at first, but I have a lot of money that I want to put to work for my clients.”

She plans to use any pullback to add shares of Palo Alto Networks Inc., Microsoft and Amazon.

At NEIRG Wealth, Giacoumakis said he owns megacap tech stocks, which have driven the bulk of the market’s advance over the past year, but he isn’t adding to his position due to lofty valuations.

Members of the so-called Magnificent Seven companies, the biggest firms in the S&P 500 — Apple Inc., Alphabet, Amazon, Meta, Microsoft, Nvidia Corp. and Tesla Inc. — carry a 33% premium to the index in terms of forward price-to-earnings, data compiled by Bloomberg show. 

Of course, sentiment can stay frothy for weeks — even months — before stocks suffer a significant drop, notes Hirsch at the Stock Trader’s Almanac, who correctly called the S&P 500’s double-digit rise in 2023. 

Take 2021, he said: Back then, the ratio of bulls to bears in the Investors Intelligence survey was hovering at current levels for most of that year, while equities continued to rip higher.

“Stocks are ripe for a pullback soon, but nothing sinister,” said Hirsch, who sees the S&P 500 potentially topping 5,000 this month before retreating to its prior high near 4,800 — or a 4% drop. 

“Market breadth is already lacking right now, with fewer stocks participating in this rally.”

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