Questions that plague investors - and Wall Street

The events that convulsed Wall Street this week - the fire sale of Bear Stearns Cos., the Federal Reserve's aggressive interest rate cut, and three-digit swings in the stock market - have left ordinary investors perplexed and anxious.

Some answers to frequently asked questions:

How close are we to a stock market bottom?

The broad-gauge Standard & Poor's 500 stock index is down 15.6 percent from its intraday high last Oct. 11. In a survey of a half-dozen Boston area financial specialists, none thought the market had hit bottom yet. But most said the bulk of the market's losses already have occurred.

They said the Fed's aggressive rate cut and its rescue of Bear Stearns may have brought stocks closer to a trough by easing pervasive fears that the credit markets will freeze, worsening the economy. Many see a bottom forming later this year with stocks beginning to climb in summer or fall, months before the economy itself recovers.

"I'd say there's six more months before the next bull market begins," predicted James T. Swanson, chief investment strategist for MFS Investment Inc., the Boston mutual funds company. Swanson looks for more stability - several consecutive high-volume trading days when gainers exceed losers - as a signal the market is swinging up.

Money manager Bruce P. Thompson, president of Thompson Wealth Management in Concord, thinks investors already have priced the economic downturn into stock valuations.

"The panic has been baked into the market, and the market is trying hard to trace out a bottom," Thompson said.

One reason for optimism: Stocks have posted strong gains in most election years this century, regardless of which party wins.

How did we get into this financial crisis?

The immediate trigger was the housing bust precipitated by a wave of foreclosures on risky subprime mortgage loans.

Buoyed by years of rising home prices, lenders extended those loans to less-creditworthy buyers who were counting on their homes to appreciate. Those loans were quickly sold off to financial intermediaries, like Bear Stearns and other Wall Street investment houses, that bundled them into securities, insured them, and peddled them to banks, pension funds, and endowments worldwide.

Then the market turned. Real estate prices dropped last year as interest rates rose, making it impossible for homeowners to refinance. Most subprime mortgages, moreover, had adjustable rates that reset higher when owners were least able to pay.

Banks and other institutions holding these loans in portfolios of mortgage-backed securities had financial losses. Uncertain of the extent of their exposure and afraid of increasing it, they've scaled back on lending to other banks, businesses, and consumers.

"We had too much candy in the form of rising home prices," said John Dorfman, chairman of the Thunderstorm Capital investment firm in Boston. "And lenders threw their rule books out the window."

What should investors do with their money now?

That depends on their appetite for risk, their time horizon, and current portfolio. But many specialists think it's a time to buy or hold.

"If they were smart to begin with and diversified, they should do nothing," said Judy Ludwig, an accountant and financial planner for Braver Wealth Management in Newton. "People are selling because they're scared things will get worse. They should just sit tight."

Keeping three to six months of living expenses in a money market or certificate of deposit as a rainy day fund can help investors weather the current market turbulence, suggested Linda Gadkowski, financial planner for Beacon Financial Planning in Barnstable.

"They should be diversified, and they should have patience," Gadkowski said. "And the stock market will return."

While some brokers advise adding to stock holdings now as the market nears a bottom, Dorfman cautioned that people planning to make substantial stock investments may want to wait until the fall. "I wouldn't be aggressively throwing money into stocks now," he said.

What is the proper portfolio mix for investors in this market?

This, too, varies by individual, depending on age, risk tolerance, and when they will need money. Those with a longer time horizon should be weighted toward stocks, the specialists said.

Andrew Chan, financial adviser for Family Financial Architects in Natick, recommends having 70 to 75 percent in equities with the balance in fixed-income investments such as bonds, cash accounts, and even real estate investment trusts. For the stock holdings, Chan favors mutual funds, which include a mix of stocks that can provide more balance during a period of market volatility.

Thompson, the money manager, suggests a portfolio that is 35 percent bonds, 30 percent US stocks (including US-based global companies), 17.5 percent foreign stocks, and the rest commodities such as gold and cash.

For older investors, approaching or in retirement, Ludwig would put 60 percent in fixed incomes like bonds and cash and 40 percent in the stock market. She, too, is partial to mutual funds. "You don't have the risk of a Bear Stearns going out on you," she said.

What sectors or companies make the best investments now?

Several market watchers named technology and consumer goods companies, like IBM Corp. or Procter & Gamble Co., with international markets that can offer a cushion as domestic sales slow.

Dorfman pointed to energy stocks, such as Apache Corp. and Devon Energy Corp., that benefit from trends like rising oil prices and natural-gas shortages. He also named pharmaceuticals, like Pfizer Inc. and AstraZeneca, which have been beaten down in the market slump.

There was less of a consensus on Wall Street financial stocks. "Finance, we know, is not a good place to be," warned Ludwig.

But after getting hurt in the credit crunch, and already losing value, some financials may be an attractive buy, said Gadkowski, citing Goldman Sachs Group, which beat analysts' profit estimates in the first quarter despite its mortgage losses. Paraphrasing the legendary investor Bernard Baruch, she said, "Buy when there's blood in the streets."

Robert Weisman can be reached at weisman@globe.com.