On the morning of March 27, I was giddy. Counting my chickens before they'd hatched, I figured that Jubak's Picks was up almost 41% for the quarter.

By the afternoon of March 30, I was in the dumps. The Jubak's Picks portfolio had tumbled with the

Nasdaq

. It was down almost $46,000, or 12%, in four days! Who cared that it was still up 24% for the quarter to date?

And on March 31, I felt on top of the world again. Green next to my technology stocks in

MSN MoneyCentral's Portfolio Manager! Suddenly, 27% for the quarter seemed like a terrific return.

No doubt about it. It's not easy keeping any kind of reasonable perspective on this market. It's one thing to say that the market is going to be volatile this year. It's quite another thing to suffer through two 11%-plus corrections in a single month.

I find myself asking two questions: Why is this happening to me? And what should I do about it?

To answer those questions, I think you have to separate the short term and the long term.

In the short term, let's define that as the period that stretches from now through the summer: I think we're in for more of what we've experienced recently. I think investors can pretty much count on lots of scary volatility. I still think the odds are that this period will end with a strong move to the upside in the fall, but that's by no means certain. In the short term, I think you have the option of either riding it out or sitting it out by moving part of your portfolio to cash.

In the long term, I think this volatility is a hair-raising but ultimately healthy way for technology stocks to rest after the extraordinary gains of the last 15 months. I don't, however, think that the recent ups and downs in the prices of these stocks have changed the extraordinary growth story in most sectors. The markets for optical networking components, telecom devices and chips, telecom routers and switches, and chip-making equipment are not only all still growing, but that growth is also accelerating. At some point, that fundamental growth story will again begin to drive these sectors higher.

Deciding whether to sit out or ride out the short term depends to a large degree on how strongly you feel about the long-term fundamentals for these technology sectors. Because I strongly believe in that long-term story, I'm going to ride out the short-term volatility: I'll hold onto my strongest technology holdings through this period and into the fall. At the same time, since I take this short-term volatility seriously, I will use any rallies that come my way to sell my weaker technology holdings. And I'll also use this short-term volatility to pick up an extraordinary bargain or two in those sectors with the strongest fundamentals.

Bargain-Hunting Time

For example, I'm going to look for an exit in

Commerce One

(CMRC)

, because the fundamentals of the business-to-business sector are deteriorating. And I'm going to add a position in

Applied Materials

(AMAT) - Get Report

in Jubak's Picks with this column because of the fundamental long-term strength in the chip-equipment sector.

I think this strategy will pay off in the long term, and it even has a good chance to beat the market in the short term. By combining a willingness to hold long-term favorites through the volatility with some active short-term trading, Jubak's Picks did beat the indices this quarter. The portfolio's 27% return for the first quarter of 2000 (deducting for trading costs, but not for taxes on gains) beat the 5% loss recorded by the

Dow Jones Industrials

Index for the period, the 2% gain for the

S&P 500

and the 12% appreciation of the Nasdaq. I would be more than happy with a similar result for the next quarter, but frankly, with volatility on the increase, that outcome is far from guaranteed.

In the short term, I think my colleague Jon Markman hit it on the head last week when he posted a note in his SuperModels Community that called this a trading-range market with an extraordinarily large range. What exactly does that mean? The stock market is trapped in a range where it can't find a way to break through at the top, and that it refuses to run below at the bottom. For the Nasdaq, that range seems to be about 5000 on the upside and 4000 on the downside. There simply isn't enough conviction in the value and earning power of stocks, especially technology stocks, or enough net new cash coming into the market to carry the index firmly above 5000. But when the index falls near 4000, enough new cash is likely to leap into the market to keep it from falling further.

This lack of conviction is typical of range-bound markets. What isn't typical is the spread in the range. That 1,000-point difference between top and bottom means that the Nasdaq can go into a formal correction -- defined as a drop of 10% or more -- without breaking out of the trading range. In fact, a 20% correction from its high just takes the Nasdaq to the start of this year.

Range-bound markets can last for a while, but they eventually break out either to the upside, when enough good news or enough new cash drives investors to bid up the price of stocks, or to the downside, when enough bad news sends investors to the sidelines.

Right now, we don't know how this one is going to resolve itself because good and bad news, and cash inflows and cash outflows, seem very evenly balanced. The beginning of a quarter, April 3, usually brings new money into the market from retirement plans. But tax day, April 15, will drain money out of the market as investors sell to pay taxes.

Moreover, the

Federal Reserve

looks set to raise interest rates another quarter of a percentage point in May, and we're also getting close to the beginning of the traditional summer technology slump. But the Federal Reserve now looks unlikely to hike interest rates by half a percentage point, which some in the market still fear. The Fed meeting in May might even be the scene of the last increase for 2000. And technology earnings, especially in the semiconductor and telecom sectors, seem to be accelerating as we head into summer.

I'd have to add the cumulative effect of 10% drops -- even if interspersed with full-fledged rallies -- to the negative side of the ledger. In the MarketTalk with Jim Jubak community and in my chats, I've noticed that readers who pretty easily shrugged off the first correction of March were much more spooked by the second episode. A market like this wears on investors, and each time we go through a drop like this, more choose to sit it out. That in itself pushes stocks lower.

Long-Term Outlook Positive

In the long term, I'm of the opinion that this market will eventually resolve itself to the upside. I think the acceleration in earnings in important technology sectors, plus a clear end to interest-rate hikes by the Fed, at least until after the November election, will be enough to move the stock market, and especially the Nasdaq, higher. To me, this period of marking time (albeit with intense volatility) is this market's way of putting in a base after the extraordinary appreciation of the last 15 months. As the market bounces back and forth with no net change in prices, earnings have a chance to catch up a bit with valuations, and that's healthy.

But while I believe the odds are in favor of that kind of upside resolution, I don't think they're wildly in favor. There's maybe a 60/40 edge to the upside. Two corrections in March make one more than I expected, and that concerns me. If the technology market fails to rally convincingly after this correction, my concern will increase. And if technology stocks that report greater-than-anticipated earnings sell off sharply on the news, I'll start to get downright worried.

Strong Quarter for Tech

What do I want to do about that? Well, I don't want to rush to the sidelines yet. I've seen evidence, even during last week's correction, that technology earnings in many sectors are going to be extremely strong this quarter, and that a solid majority of companies are going to tell Wall Street to raise growth estimates for future quarters. For example, I've seen an eager anticipation in

Dell Computer's

(DELL) - Get Report

analyst meeting on April 6. Wall Street is now expecting that the company will report accelerating sales to the corporate market. I'm starting to hear the same kind of positive buzz about an earnings report due from

Apple Computer

(AAPL) - Get Report

on April 19.

The news coming out about chip-makers is even better. It looks like demand continues to accelerate, thanks to strong growth in personal computers, telecom and digital appliances. A very positive sign was last week's earnings-estimate increase for

Advanced Micro Devices

(AMD) - Get Report

by Dan Niles of

Robertson Stephens

. The analyst raised his fiscal-year 2000 earnings estimate to $2.60 a share from $1.90. That's exactly the kind of big jump in earnings that, if it materializes, can jump start a whole sector.

I want to hold onto stocks in the technology sectors that now show the potential to deliver strong, positive earnings surprises. In my opinion, that includes semiconductor makers, semiconductor-equipment makers, wireless equipment and device makers, networking and optical-networking equipment makers. In recent weeks, I've been deliberately adding recommendations to Jubak's Picks in those areas, and the portfolio is now decidedly overweighted in those sectors. That's just where I want to be, and I'm actually going to add a pick, Applied Materials, with this column that will increase that weighting.

However, I don't want to take any more risk than I have to. For example, a few technology sectors definitely seem too risky for the potential reward. Many consumer Internet stocks will continue to struggle, although I think

America Online

(AOL)

and

E*Trade

(EGRP)

are showing signs of recovery. And now, B2B stocks are deeply troubled. Wall Street has started to question the basic business model for these stocks. For example, in

Prudential Securities'

downgrade of Commerce One,

Ariba

(ARBA)

and

i2 Technologies

(ITWO)

on March 31, the firm cited recent signs that these companies were facing a drop in the fees that they had hoped to collect on every transaction.

General Motors

(GM) - Get Report

, for example, was renegotiating its entire deal with Commerce One to reduce the 50/50 split in net transaction revenue to something more like a 15%-25% share for Commerce One. In addition, both MSN MoneyCentral publisher

Microsoft

(MSFT) - Get Report

and

Oracle

(ORCL) - Get Report

have said they are ready to do B2B deals without any transaction fees at all.

Reason For Caution

While I'm only cautiously optimistic about the market as a whole, I certainly don't want to take extra risks on a sector that's likely to remain under pressure for months. I'll be looking to sell the Jubak's Picks position in Commerce One into the next decent rally.

And my caution isn't limited to technology stocks. The stock of any company that is growing more slowly than expected, and that looks likely to disappoint either significantly or for a second or third time, also should go on the block in a market like this. That's why I'm dropping

Halliburton

(HAL) - Get Report

from Jubak's Picks with this column. The recovery in the company's international drilling-and-service business is taking longer than expected, for the second quarter in a row.

Here's how I'd summarize my strategy for the next six weeks, the period that includes earnings season and ends with the Fed meeting on May 16.

  • I'm going to stay heavily invested in technology stocks, especially in sectors where I see the strong possibility of positive earnings surprises, into May. This is essentially the strategy I've pursued since February.
  • I'm going to cut back my exposure to any technology sector that is under pressure at the moment and where the fundamentals are in question. Call this a sell-first-and-analyze-later response to the increased volatility of this market.
  • I'm going to be more aggressive about selling any stock in any sector that is showing signs of disappointing for a second or third time, or by a large margin.

Now, if we get a decent rally off last week's correction, steps two and three are likely to seem excessively cautious. I certainly understand the inclination to sit back and breathe a sigh of relief. But I think it's way too early to relax. We won't know how healthy any rally is until it has gone on for a few weeks. Instead of getting complacent, I urge you to remember those moments last week when you looked at this or that stock in your portfolio and said, "Gee, I wish I'd sold that when I had a chance." If you get the chance soon, take it.

The only stocks you should be holding in a market with this much volatility are those that we would be comfortable holding through a correction like the one we had last week. Not those you'd look at again with regret.

Jim Jubak is senior markets editor for MSN MoneyCentral. At the time of publication, he owned or controlled shares in the following equities mentioned in this column: America Online, Applied Materials, Commerce One and E*Trade Group. Holdings can change at any time. Under no circumstances does the information in this column represent a ecommendation to buy or sell stocks. He welcomes your feedback at

mctsc@microsoft.com.

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