Is Wall Street Smarter Than Us?

By a lot of measures, the United States economy is looking pretty good right now. The unemployment rate has fallen below 6 percent for the first time in half a dozen years, and jobs are being added at the fastest rate since before the Great Recession.

Things are looking better, that is, unless you turn your eye to Wall Street. There, the stock market’s main gauge, the Standard & Poor’s 500-stock index, fell 0.8 percent last Wednesday after a wild ride during the day. It is off 7.4 percent since mid-September.

Moreover, longer-term interest rates are down sharply, which normally signals pessimism in the bond market about the nation’s economic future. A measure of expected volatility hit its highest level since 2011 on Wednesday, signaling that more manic days could lie ahead.

This apparent contradiction — and how it is resolved — points to the basic question for the United States economy and for Federal Reserve policy makers right now. How powerful is that underlying economic strength? And will the recent market volatility prove ultimately inconsequential, or does it presage harder times ahead for a nation still trying to muddle its way out of a downturn that technically ended more than five years ago?

In other words, does Wall Street know something that the rest of us don’t?

There are some reasons that, unnerving as these market moves have been, people who do not trade stocks and bonds for a living should still feel reasonably good about where things stand. Yes, the market sell-off of last week was driven partly by a weak reading on United States retail sales, which fell 0.3 percent in September. But some of the most direct effects of the market action are actually positives for ordinary Americans.

The price of oil is down about 20 percent since summer, which is making a wide range of fuels less expensive. Gasoline now averages $3.18 a gallon, down 14 percent since the spring, according to data from AAA. A slump in the prices of agricultural commodities like corn, soybeans and wheat should, over time, make trips to the grocery store cheaper.

And with money gushing away from risky investments like stocks into safer bonds, long-term interest rates have fallen steeply; the yield on a 10-year Treasury note briefly dipped below 2 percent last week, the lowest it has been in more than a year. (It closed the week at 2.13 percent.)

Those lower rates are likely to be passed through in the form of lower home mortgage interest rates, which could bolster a still-struggling housing market. Thirty-year fixed-rate mortgages averaged 4.13 percent last week, according to Bankrate.com, a number that could tumble further as the latest bond market moves are priced into consumer mortgages.

But perhaps the overriding message is that this market sell-off, to the degree it is a sell-off at all (the S.&P. 500 decline of 7.4 percent was matched by a similar fall in late 2012), may be bringing market prices more in line with the brutal realities of the economy.

While job growth has been solid this year, wages are rising barely faster than inflation, and the United States economy is producing far below its economic potential by most official estimates. Yet the stock market and other risky investments have generally been on tears since early in 2009, soaring to relatively high valuations relative to earnings. The Fed’s policies of printing trillions of dollars to buy bonds have been an important factor.

So the correction may not be about Wall Street knowing something about the outlook for the future that the rest of us do not, but rather about markets adjusting to more realistically reflect economic reality. Yes, things have improved, but maybe not enough to justify stock prices that are quite so high relative to corporate earnings.

“Due to excessive confidence in central banks, investors eagerly decoupled high market valuations from what was warranted by the sluggish fundamentals,” said Mohamed A. El-Erian, chief economic adviser of Allianz, the financial services company. That disconnect, he said, has been undermined over the last few weeks by signs that the global economy’s fundamentals are weaker than they seemed and concern that the European Central Bank will not adequately fight that continent’s economic drift.

The renewed bout of volatility partly reverses a trend through the first half of the year in which almost all global assets — both safe ones like Treasury bonds and risky ones like stocks and real estate — were increasing in value. Now money is shifting out of risky assets and toward the safe ones, which is a more normal pattern.

There is a big question, though, as to what, if anything, global policy makers ought to do about it. Fed officials have been clear that they expect to start raising interest rates from their longstanding near-zero levels in the middle of 2015. Until this month, markets have believed them.

On Oct. 1, futures markets priced in only about 9 percent odds that the Fed would not raise rates by December 2015. By Wednesday, that had risen to about 40 percent. That means investors are now betting, given the recent declines in stock prices, bond yields and inflation expectations, that Janet L. Yellen, the chairwoman of the Fed, and her colleagues at the central bank are quite a bit less likely to follow through with their plans to increase interest rates next year. There have even been some early rumblings of a new round of quantitative easing, or bond buying (the previous round is set to end in the weeks ahead).

The decision whether to increase interest rates next year will be Ms. Yellen’s first big test in a tenure as chairwoman that began in February, but has thus far largely carried out policies shaped by her predecessor, Ben S. Bernanke.

The quandary for Ms. Yellen, and for anyone reading scary headlines about the latest market moves, is this: Are these the kinds of routine gyrations on Wall Street that can be safely ignored? Or are they a signal that something is seriously wrong and the Fed needs to re-evaluate the path it has embarked on?

COLLEGE CHRONICLES – Also Cartoon of the Week: Doonesbury

AUTO CONTRACTS ON THE HORIZON – Part I

The new president of the United Auto Workers is moving to restructure the union as it gears up for one of its toughest challenges in years: next fall's critical labor talks with U.S. automakers as it seeks pay raises for veteran workers and more equitable wages for newer workers.

"We're shaking it up a little bit. We're actually restructuring internally," Dennis Williams told The Detroit News in his first wide-ranging interview since taking office in June. "We know we have a lot to do — but we don't want to put so much on our plate that we can't achieve nothing."

The Detroit union wants to convince U.S. automakers — who made $14.4 billion in profits last year — to agree to significant improvements in compensation, including for older workers who haven't had a raise since 2007. Williams is under heavy pressure to bridge the gap with newer employees known as "Tier 2" workers who earn significantly less than veteran employees — and get less in the way of benefits, including no defined-benefit pensions.

"We have to be focused on bridging that gap," the 61-year-old Williams said last week in his office overlooking the Detroit River at Solidarity House, the UAW's headquarters. "The companies need to recognize the fact that the (veteran employees) haven't had a raise."

The UAW faces significant pressure to deliver, in part because thousands of UAW members in Michigan will have the right to opt out of membership for the first time after Michigan approved controversial "right to work" legislation.

At the same time, Williams says, the union has to be "mindful that we are in a global economy with real competition."

Next year's contract talks are the first since 2007 in which workers at General Motors Co. and Chrysler Group LLC have the right to strike; the UAW gave up that right for the 2011 talks as one of the conditions of the government bailouts for the automakers. Workers in June approved the first dues increase since 1967 — a 25 percent hike — to replenish the strike fund that had fallen to about $600 million. Union leaders said they needed a healthy strike fund so companies would take seriously the threat of a work stoppage.

Williams said a strike is not inevitable next year in contract negotiations, despite suggestions by some observers.

"We don't want to have a confrontation unnecessarily. I just think there's too much at stake for any of us to pick a fight with one another," he said. "We have big issues — there's no doubt about it — but I think, realistically, companies have to know... our members have sacrificed. I think that new people coming in want a higher standard of living and I don't think that's unreasonable. We'll find out when we get to the table."

Williams, who previously was secretary-treasurer of the union, said he is rethinking all of its operations. He says the UAW is making progress in its bid to win representation for workers at Volkswagen's Chattanooga plant. He confirmed the union expects to launch a similar local for workers at Daimler's plant in Vance, Ala., asking to workers to volunteer to join.

He plans to again push the automakers to add more jobs in the United States. The 2011 labor agreements resulted in Detroit's Big Three automakers adding or retaining 28,000 jobs, and resulted in record-setting profit-sharing checks for UAW workers and pay raises for newer workers. By next year, those newer workers will make at least $19.28 an hour, up from about $15.50 in 2011. Part II next week.

BIRTHDAYS THIS WEEK – Birthday wishes and thoughts this week to: F. Murray Abraham (75), Tom Petty (64), Jaclyn Smith (69).

COVERING COSTS - Autumn is typically when U.S. companies reveal changes to employee insurance plans. As corporations push to contain costs, Wal-Mart, the country’s largest private employer, is cutting health insurance for another 30,000 part-time workers and raising premiums for its other employees. Several other retailers have also moved away from providing health insurance to part-time workers. For Wal-Mart the health law’s individual mandate, which requires most workers to have health insurance or pay a penalty, contributed to an influx of workers who signed up for coverage.

APPLE PAY GOES LIVE MONDAY, AND CUPERTINO'S TOUTING ITS PRIVACY - Apple's second event in two months wasn't the barn burner, but it did have a few newsy nuggets. Apple Pay, Apple's mobile payment system announced last month, goes live on Monday, with more than 500 banks making up 83 percent of the credit card purchase volume in the U.S. and 262 retail stores. Apple Pay will also work within online apps such as Groupon, OpenTable, Staples, Panera Bread, Staples, Target and Uber, with others like Sephora, Disney Store, Starbucks, StubHub and Ticketmaster coming on later. Apple CEO Tim Cook called Apple Pay "the private way to pay" for things. As anticipated, Apple also announced that it is adding Touch ID to the thinner, faster iPad Air 2. The iPad will also get Apple Pay, but unlike on the iPhone, Apple Pay on the iPad can only be used for online purchases. There were also plenty of oohs and aahs for the new iMac Retina 5K screens. Cook also took a victory lap for the latest iPhones, the fastest-selling iterations in the company's history.

GOOGLE'S STILL RAKING IN THE CASH, BUT IT MISSED ESTIMATES -  With more than 90 percent of Google's revenue coming from advertising, Google didn't bother with much else on its third-quarter earnings call. Nothing on Glass, or Fiber, or the self-driving car, or Nest, or Google drones. The company still rakes in quite a take, more than $16.5 billion in revenue for the quarter, up 20 percent from last year, but that still missed Wall Street estimates, sending the stock down more than 5 percent in after-hours trading. In answer to a question about where Google Wallet stands, Google CFO and Senior Vice President Patrick Pichette talked around the edges. "Our goal is to achieve mass merchant adoption and make it easier for customers to use their smartphone instead of their wallet," he said. On the potential changing tax laws in Europe, Pichette pretty much repeated the company line. "We've always said, it's for politicians to decide and for companies to comply with those laws. We're deeply committed to Ireland; we have 2,500 employees there. We'll work with authorities to understand this, but it's too early to tell what will happen," he said.

KILL OR CURE - The world had little interest in Ebola in 1997, when cell biologist Nancy J. Sullivan took up her research work. Today, Dr. Sullivan is likely to be at the center of any potential answer to the world’s severest outbreak of the deadly virus. So far Dr. Sullivan’s vaccine has been proven to block Ebola in monkeys. However, it is scheduled to undergo full human testing by early next year. Meanwhile, a top U.S. health official said that new hospital guidelines for health-care workers treating Ebola patients will require full body coverings and mandate that they be monitored while putting on and taking off protective clothing. And in a piece of good news, Nigeria, Africa’s most populous nation, which had reported a handful of cases of the virus, was declared Ebola-free this morning by the World Health Organization.

COLLEGE FOOTBALL PICK OF THE WEEK – Saturday 10/25, 7:15 PM ET, ESPN; #3 Ole Miss Rebels (7-0) at #24 LSU Tigers (6-2). Just how good are these Rebels? Not so, LSU 38 Ole Miss 28. Season to date (4-4)

SMALL COLLEGE FOOTBALL PICK OF THE WEEK – Saturday 10/25, 8:00 PM ET, Bravo; #12 North Central Cardinals (5-1) at #19 Wheaton Thunder (6-0). A battle of first place in the CCIW Conference, we like North Central to pull the upset, 24 – 21.Season to date (4-3)

NFL PICK OF THE WEEK – Thursday 10/23, 8:25 PM ET. CBS; San Diego Chargers (5-2)  at Denver Broncos (5-1). Broncos romp 42 – 28. Season to date (3-4)

THE SWAMI’S WEEK TOP PICKS –

(NCAA, Oct. 25) Michigan Wolverines (3-4) 14 at #8 Michigan State Spartans (6-1) 30

(NCAA SCIAC, Oct. 25) Chapman Panthers (4-1) 32 at Cal Lutheran Kingsmen (2-3) 20

(NHL, Oct. 25) Chicago Blackhawks (3-0-1) 3 at St. LouisBlues (2-2-1) 4

(NFL, Oct. 26) Baltimore Ravens (5-2) 17 at Cincinnati Bengals (3-2-1) 21

Season to date (57 - 51)

DRIVING THE WEEK - President Obama is in Chicago Monday for Gov. Pat Quinn ... Treasury Secretary Jack Lew is in New York to meet with "business leaders" to discuss the economy ... Deputy Treasury Secretary Sarah Bloom Raskin is in Beijing for the Asia-Pacific Economic Cooperation Finance Ministers Meeting ... Existing home sales at 10:00 a.m. expected to rise to 5.10M from 5.05M ... Consumer prices Wednesday at 8:30 a.m. expect to be flat headline and up 0.2% core ...

Index of leading indicators at 10:00 a.m. Thursday expected to rise 0.7% ... New homes sales at 10:00 a.m. Friday expected to drop to 470K pace from 504K ... Amazon, Apple, IBM, Microsoft, Yahoo, GM and Ford among the big earnings reports this week ... Financial Services Roundtable along with the U.S. Secret Service and the FBI today co-host a financial cyber-security summit.

Next week: Fall in the garden, Mid Term election picks, Dear Rink Rats, and Jack Ass of the month.

Until Next Monday, Adios.

Claremont, CA

October 20, 2014

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