The stock market's volatility and overall decline are a buying opportunity for some equity investors.
They view the slide as a correction, not as the kind of full-scale bear market plaguing fixed income. And, they will use any correction as an opportunity to snap up bargains.
Bond investors, however, aren't as lucky.
"Through the middle of 1993 and for the last 10 years, you were trying to make money for your clients; making money was the object. My objective today is not to lose money and to preserve principal," said Rebecca Garner, president of Garner Asset Management, a Little Rock, Ark., fixed-income manager.
"That's a huge change after a 10-year bull market."
Bond players might be defensive, but many stock market investors aren't.
John Young, chief investment officer at the $37 billion Teacher Retirement System of Texas, Austin, said he is making selected buys in "some stocks we like longer term" as the market corrects.
"We've all been sitting here for the last two years waiting for a correction, and it hasn't come to any significant degree. I think you would have to consider this a correction. Whether it is a major or minor correction remains to be seen. No one knows if it is part of something bigger, but we certainly look at it as a chance to buy stocks we like for the long term. ...
"We are still bullish on equities for the long term. We aren't in a bad environment for equities - moderate economic growth, low inflation - and we don't see interest rates skyrocketing."
The Texas fund manages all its assets internally, including $16.5 billion in equities.
Charles H. Webb, chief investment officer of the $13 billion Tennessee Consolidated Retirement System, Nashville, also doesn't expect a bear market.
"We are in a correction but I don't expect any prolonged downturn in stocks," he said.
"If things stay where they are now, we may have reached some interim sell signals," Mr. Webb conceded.
Tennessee manages $4 billion in equities internally.
Bolstering stock investors' attitudes is a report issued last week by Standard & Poor's Corp.
It said the market decline could be part of a 10% to 15% correction from the all-time high, but does not indicate a sustained bear market.
A 12% decline from recent highs would take the Standard & Poor's 500 Stock Index to the 425 level from its Feb. 2 peak of 482, and the Dow Jones Industrial Average to 3,500.
The S&P 500 closed at 445.55 Wednesday and the Dow closed at 3,627.
S&P said the major factor in the stock market decline is the Federal Reserve Board's shift to pushing short-term interest rates higher, but that the economy remains strong.
The outlook for equities remains favorable despite market volatility, said James R. Solloway, director of investment research at Argus Research Corp., New York.
"All in all, the evidence does not yet provide a compelling reason to trim our investment sails. There is no sign of recession on the horizon. The interest rate increases to date should have very little effect on either credit flows or real economic activity. ... Our investment focus continues to be on economically sensitive stocks in the basic materials, industrial and technology areas," said Mr. Solloway. "We are still modestly bullish (for equities) here."
On the fixed-income side, however, investors have been involved in a bloodbath since early this year, when Federal Reserve tightening and increased long-term interest rates ended the prolonged bull market in bonds. As a result, bond managers have grown defensive and uneasy in the face of spiking long-term rates, which topped 7.15% last week from the low of 5.78% in the fall of 1993.
Bond investors are shortening maturities and seeking cover in cash until some stability returns to the market. Many expect rates to turnaround later this year, possibly as early as summer.
"The bond market is correcting right now," said Ken Safian, president of Safian Investment Research Inc., New York. "The reason rates went up is because of increased credit demands, not inflation. The Fed tightened and bonds sold off and that's where we are today. If the economy slows this summer, as well may be the case, bonds could rally to 6.5% or so."
Mr. Safian said shorter maturities now are the wisest course for bond managers and investors. "If you are looking for income, there are risks in the long-term bond. If you have a 7% long bond and 6% on the 10-year, why would you want to go out to 30 years? You should be more defensive right now in bond portfolios."
Garner Asset's Ms. Garner said her firm started shortening maturities in June 1993, with new money going into the 10-year sector. She said she expects a mild recovery relatively soon.
"We can see 6.75% long bonds in a few months but we won't see 5.8% again, but neither will we see 10%," she said.
Allen Seidner, president of Seidner & Co, a Pasadena, Calif., intermediate-term bond manager, said he started shortening maturities to the two- to three-year range from five years. He acknowledged there appears to be a "free fall" in the broader market. He too blamed the Fed.
"The Fed has blown it and precipitated this sell-off; they basically scared the heck out of the market for essentially no reason."
Frank Puryear, fixed-income portfolio manager at the Tennessee system, said he shortened maturities on the fund's $6.8 billion fixed-income portfolio to about 5.25 years from six years last fall. "We have been real defensive since the fall and also went to about 10% cash," said Mr. Puryear. If the long Treasury bond holds at about 7.1% "that would be a very good indicator that we have bottomed out," he said. "But we let the market show the way and we don't want to get in the way of a bear market."
Overall, investment strategists expect stocks to outperform bonds and cash in coming years.
Charles Clough, chief investment strategist at Merrill Lynch Capital Markets, New York, said current economic conditions limit investor options, but equities should play a major role in pension portfolios.
Mr. Clough said a three-part strategy should do well as investors come to grips with a stronger economy characterized by rising rates and market volatility.
"Keep some liquidity, look to capital goods, which is where the long-term momentum is going to be, and look for yield," he said.
He said there is "another leg" in the market expansion that will be led by the manufacturing sector.
"And when interest rates peak later this summer, there probably will still be a shortage of yield-producing vehicles. Pension funds will want to look for yield and I would look seriously at" real estate investment trusts, Mr. Clough said.
According to some strategists, REITs could generate returns of "10% plus" in the coming year.
"In addition to the stable returns expected to be generated, REIT holdings ... are also expected to hold up fairly well in a down market," said a report by the Leuthold Group, a Minneapolis investment strategy firm.
Investment consultants are cautious over the rising rate environment and are telling pension funds to maintain broad diversification to weather the storm.
"We are telling our clients to look at their liabilities too and to look at a diversified investment structure so they won't be dependent on interest rate movements," said Carol Proffer, principal with William M. Mercer Inc., Dallas.
