(MONEY Magazine) – If you're a close observer of the stock market, you may have suffered a bad case of whiplash in recent weeks. Earnings warnings, the Enron effect, off-balance-sheet blues and the New York attorney general's investigation into brokerage practices have created an atmosphere of some insecurity. Add in the war against terror, the Israeli-Palestinian hostilities, the volatility of oil prices and concerns about another major terrorist attack, and suddenly even the most confident market watcher can develop a tic. The Wall Street veterans whom I spoke with this month, however, point out the importance of distinguishing between day-to-day volatility and pervasive market uncertainty. In fact, the Dow and the Nasdaq have managed to sustain steady gains since bottoming in late September. But that's not to say that this cycle isn't complex and, on many days, downright confounding.

Vince Farrell, chairman of Victory Capital Management, takes a cautious view. "Stocks are not cheap, despite the corrections of the past two years," he says. "And the outlook for corporate earnings--forgetting accounting issues--is uncertain because you can't gauge the strength of the economic recovery." Farrell believes that the economy was strong in the first quarter but sees some factors that could hamper growth for the remainder of the year: higher mortgage rates, which have slowed refinancings, and higher oil prices. "Add in Enronitis," says Farrell, "the lack of clarity on earnings reports and so on, and I think we have a market that's locked in a trading range for a while."

Harvey Eisen, chairman of Bedford Oak Advisors, believes the worst excesses of the bull market "have been obliterated." He thinks good opportunities are available, though investors may have to work harder to find them. "You have what people once called a stealth market," he says. "In this case, it's a stealth bull market. You can make money buying stocks of good, understandable businesses--good being defined as good balance sheets, good rates of growth, good management, no off-balance-sheet financing. No nonsense."

Michael Holland, chairman of the investment firm Holland & Co., is the most optimistic of the three. "I think the market is reflecting what's going on in the real world," he says. "We're coming out of a prolonged bear market and a recession--the recession having been at its worst in the technology and telecom areas. We're coming out fitfully, but in a somewhat sustained way. We have had this enormous success militarily and diplomatically after Sept. 11 with the response to the terrorist attacks, so that's the backdrop for people having some confidence despite the fact that we have had events such as the fighting in the Middle East, Andersen and Enron. With all of this going on, the market has been incredibly resilient, as it often is when things are getting better. I would expect that over the next several quarters, we're going to get some continuing evidence of the upside of the recovery."

Rocky road

But why does recovery this time around feel so rocky? Farrell says one factor is that, coming out of a recession, the market historically has been much cheaper. "We're trading at around 20 to 22 times the best guess for what earnings will be this year for the S&P 500. When we came out of the recession in the early '70s, we were at seven times earnings. Interest rates were much higher then too. And interest rates, along with earnings, are the key determinant of stock prices. If the alternative investment--that is, a fixed-income investment--isn't that attractive, you'll pay more for stocks." Farrell adds, "The market right now is relatively fully valued on expected earnings. It's not egregiously overvalued, but it sure ain't cheap."

Eisen, however, says that when it comes to valuation, it's essential to break it down and look at stocks and sectors individually. "Take out the technology stocks that trade at 100 times earnings," he says. "GE is trading at 18 times earnings. Eighteen times earnings is fine for a legitimate business. There are thousands of real companies that are out there doing business every day with clean accounting. So think simple. Think growth at a reasonable price. Think understandable businesses."

As for comparing this cycle with past recoveries, Holland warns that every cycle is different and that history is helpful but not predictive. "Right now, the direction would clearly appear to be up for both the economy and the stock market," he says. "It's a question of when is the up and how long will it last? What's different this time is that we have not in this generation had an economic cycle beginning with inflation as low as it is. Low inflation with strong indications of an economic upturn are the perfect backdrop for the markets."

Of all the factors currently pressuring the markets, which is having the most significant impact? Which should investors watch most closely? According to Farrell, the most important determinant is still corporate earnings. Holland agrees: "At the end of the day, earnings and cash flow are the key to the market."

Eisen's view: "The key components of the markets are the economy and earnings, interest rates and inflation, valuation and psychology. Inflation is low, it's not a problem. Interest rates are low, they're not a problem. The economy is improving. No problem there. Valuation is high, but if you break it down, it's not that high. And psychology is manic-depressive. However, remember that opinion follows trend."

And what about some of the gloom-and-doom scenarios whispered about recently on Wall Street? All three Wall Street veterans call them overblown. "The terrorist issue is everybody's worst nightmare," says Eisen. "It's a major negative. Israel is a major nightmare, as is the Middle East, because it's a time bomb. But they always seem to be able to figure it out when it gets serious. The real problem to me is if the U.S. goes after Saddam Hussein, because that would be like '91 and that could be a concern. But barring those negatives, the economy has clearly bottomed. The Fed cut rates to a 40-year low. Now they're even debating whether there was a recession."

According to Holland, "If one expected the economy was going to stop growing, and we had a lot of inflation, a reduction in profits and a reduction in GDP--which I don't expect to happen--then you say it's all over. I don't believe it. I think if anything, because of technology, we may be at the early stages of yet one more great leap forward with the economy over the next couple of decades."

Trapped in a trading range

Farrell warns, however, that we must remain aware of the potential for downward momentum: "What could change, for some reason I can't conjure up, is if interest rates go up a lot quickly, because that would bring a real slowdown in housing. And oil could go up significantly. However, I think most of us would suspect a spike in the price of oil would be temporary."

Both Farrell and Eisen forecast that the major indexes will be caught in the current trading range for some time. "I think there will be extraordinary volatility day to day," says Farrell, "but at the end of a month or the end of the quarter, very little net change. My guess is that the averages will finish slightly up on the year, because usually you don't have more than two down years in a row."

As for my opinion, I agree that taking the long view is essential. The financial markets will work through all the challenges that they are currently facing, from the Middle East conflicts to corporate balance sheet uncertainty to stubbornly weak corporate earnings. They always do. In the meantime, the key for investors is to be financially disciplined and informed, cautious and diversified, vigilant and possessed of a very strong stomach.

Lou Dobbs is the anchor and managing editor of CNN's Lou Dobbs Moneyline.