"If rates were rising due to better growth, credit spreads would be flat to declining," Zenouzi says. What it means, he says, is that investors need to move cautiously. But that does not mean taking the traditional path of buying high-grade bonds. Interest rates are still so low that the Fed's policies "are challenging you to take on risk. I am not going to fight that," he says.
Zenouzi favors large-cap dividend-paying stocks, convertible securities, real estate investment trusts, master limited partnerships and other forms of income-paying investments. The high-yield sector shows promise because in a gradually improving economy, the sector's default risk declines. But Zenouzi avoids the highest-yielding sector and warns investors: "Don't chase yield."
His own Delaware Dividend Income Fund takes a low-risk approach and pushes for steady returns. Its five-year return of 7.11 percent is ranked "above average" for both returns and risk rating by Morningstar.
So what's the case for jumping back into stocks? Heron's Edwards says the market swoon reflected psychology that shifted from "extreme greed" to "extreme fear" in just one month, according to the CNN Fear & Greed Indicator, which he watches as a measure of investor confidence. Stocks were getting overvalued, says Edwards, who was forecasting a pullback of 5 percent to 7 percent for months. It became buying time when the market went into its swoon, he says.
The reasons for the pullback were thin, he adds. The Fed's announcement was not really a surprise, and the China fears were overblown. "Inflation is in check, and it will be kept in check. The market was overreacting, and it shows how addicted it was to QE [quantitative easing] that such a small shift by the Fed got people thinking it was going to spread like the subprime crisis did back in 2008. That thinking has persisted in investors' minds."
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The market's biggest fear, that housing could fall back into its 2008 slump, is proving to be unwarranted, he says. "Housing prices are on the mend – not soaring as during the bubble but rising enough to shift many homeowners into positive equity and stimulating housing starts."
Investors' fears of a market or real estate crash in China, a meltdown that would rival the U.S. collapse, is another symptom of the market's lingering worries. Edwards says a slowdown in China's economy is taking place, but it is still likely to grow moderately.
Edwards is bullish, but he says investors shouldn't rush to get back into the market all at once. He is telling clients to shift half of their cash back into stocks now and half later in the year. Some of the most beaten-up sectors like commodities and emerging markets may be most attractive long-term buys, he adds.
"Investing goes against our natural instincts," Edwards says. "Ninety-eight percent of us are followers, and 2 percent really have the internal courage to take the risk to buy when everything looks like it's at its worst. That's often the best time to get in."