SAN FRANCISCO -- Remain calm. All is well ... well

what?

This week just added to the mounting frustration, leaving investors confused and wondering whether Tuesday's frightening losses, Friday's

setback, or Thursday's huge gains represented reality. The truth probably lies somewhere in the middle.

For the week, the

Dow Jones Industrial Average

fell 0.9%, the

S&P 500

slid 2.7% and the

Nasdaq Composite

lost 6.5%.

The week's wicked volatility was embodied by the mixed messages in Friday's

employment report

.

The bad news was, of course, the 86,000 decline in the headline payroll figure. That was the worst one-month loss since November 1991 and confounded expectations for a 56,000 rise. The unemployment rate rose to 4.3% from 4.2% previously, as expected.

The diffusion index, a broad measure of hiring activity, fell for the second consecutive month and dipped to 46.5 in the first quarter vs. 50.6 in the fourth quarter of 2000. A reading below 50 implies contraction, confirming the steep layoffs reported by

Challenger Gray & Christmas

.

The drop in the diffusion index is "the more troubling aspect of the report," according to John Lonski, senior economist at

Moody's Investors Service

, who noted this is the first quarterly drop from expansion to contraction since early 1991, during the last recession.

The good news on the jobs front is that

average hourly earnings

grew more than expected, rising 0.4%. The year-on-year rate of earnings growth is now 4.3%, the highest since June 1998. Average hours worked also increased, by 0.1% to 34.3.

The "healthy increases" in wages suggest "we will probably run into a problem with inflation by year-end" if the economy firms, Lonski said, predicting the

Fed

might have to

raise

rates by year-end if inflation re-emerges.

But the economist believes the Fed is willing to risk future inflation in order to fight the current slowdown, which was evinced by the payroll figure, the diffusion index, as well as the eye-opening announcement by

Agilent

(A) - Get Agilent Technologies, Inc. Report

that it is cutting salaries for all of its employees by 10%.

"The

employment report strongly suggests the Fed made a mistake by not cutting fed funds by 75 basis points on March 20," he said, "and puts more pressure

on the central bank to go ahead and cut interest rates by at least 50 basis points on May 15."

Lonski, however, does not believe the Fed will cut rates prior to the May meeting "unless there's a more jarring selloff on the equity side," suggesting Dow 9000 and S&P 1000 as thresholds above which the Fed will keep its rate-cutting wand sheathed.

An overriding theme this week was Fed governors trying to put a positive spin on the economy. As it was

Wednesday, so it was again Friday when

Dallas Fed

TheStreet Recommends

President Robert McTeer was quoted as saying: "It's bad to see employment decline, but the amount of the decline was moderate compared to what it could be."

Reflecting fears that no intermeeting rate cut is forthcoming, stocks tumbled Friday in the wake of the jobs data, as well as Agilent's news. Stacked on top of that: Concerns about

Motorola's

(MOT)

liquidity, and the bankruptcy filing by the operating unit of

PG&E

(PCG) - Get PG&E Corporation Report

. The Dow fell 1.3%, the S&P lost 2%, and the Comp shed 3.6% in the session.

On the flip side, bonds rallied sharply to end the week, benefiting both from stocks' woes and the weak job data.

Hang Your Hat

Reflecting the growing sense of despair on Wall Street, many market participants quickly dismissed Thursday's advance as a "sucker's rally" and cries of "I told you so" could be heard Friday. But while many skeptics pointed out the lower-than-normal volume Thursday, few noted volume was lower still on Friday, when 1.2 billion shares traded on the

Big Board

and 1.8 billion were exchanged over the counter.

Notably, while many are expressing continued (or newfound) caution, a growing number of market watchers are becoming more optimistic, including Ned Riley, chief investment strategist at

State Street Global Advisors

in Boston.

"For the investors that understand the next couple of quarters are not going to be pretty, history has told us this is the time where you go out and start positioning yourself," Riley said. "Clearly we've got probably another couple of quarters of sad fundamentals

but many of these companies are priced to go out of existence."

The stock market is pricing in a draconian economic environment and the question is whether that "worst-case scenario" is already priced into shares. Riley is "hanging my hat" on a belief that it is, and that stocks will sustain current levels, and more likely rise, even as "gruesome" first-quarter earnings are announced in the coming weeks.

State Street, which manages over $25 billion in assets, is long and sticking with tech bellwethers Riley described as "the strongest in their respective fields and have the wherewithal to sustain themselves thru a recession period." Examples include

Cisco Systems

(CSCO) - Get Cisco Systems, Inc. Report

,

Intel

(INTC) - Get Intel Corporation (INTC) Report

,

Dell

(DELL) - Get Dell Technologies Inc Class C Report

,

Sun Microsystems

(SUNW) - Get Sunworks, Inc. Report

and

Microsoft

(MSFT) - Get Microsoft Corporation (MSFT) Report

.

Eschewing the commonly held view, Riley does believe the market's past leadership can reassert itself in the next up phase, because tech still has higher-than-average growth. Additionally, he's more optimistic about tech now because the psychology regarding the sector is the "mirror image" of where it was a year ago, when most investors were wildly bullish.

"It will be a slow, arduous process to dig our way out but when we come out the other end

of the downturn it will be the survival of the strongest," he said.

The old expression "what doesn't kill you, only makes you stronger" is certainly applicable to the experience of most investors in the past year. So it was again in this latest week in which investors groped for clear signals from the ever-vexing market.

Aaron L. Task writes daily for TheStreet.com. In keeping with TSC's editorial policy, he doesn't own or short individual stocks, although he owns stock in TheStreet.com. He also doesn't invest in hedge funds or other private investment partnerships. He invites you to send your feedback to

Aaron L. Task.