MarketView for October 11

Summary 

It was pretty much of do nothing day on Wall Street on Monday as share prices appeared to be bobbing in the ocean of uncertainty, while the bond markets were closed for the Columbus Day holiday. Much of the reason for the inaction is that investors, individual or professional, always seem to be waiting for something and on Monday it was a wait and see attitude for what the current earnings season will turn out like. This week will see earnings from industry bellwethers Intel, JPMorgan Chase and General Electric.

Meanwhile, the Dow has been moving higher for five of the past six weeks and is now less than 2 percent from its highest level of the year, which it touched in late April.

Traders have been pushing the stock market higher over the last two weeks, expecting that the Federal Reserve will stimulate the economy and drive interest rates lower. If the Fed announces an expansion of its bond-buying program at its next meeting in early November, traders assume that investors will turn their attention to equities because low interest rates will result in a less attractive bond environment.

As the week progresses the Street will be inundated with a series of key economic reports, including data on inflation, retail sales and consumer sentiment that could influence trading. The Fed has said part of the reason it might buy bonds is to get inflation more in line with historical levels. Keep in mind that the Fed has two goals, to achieve full employment or some resembling full employment, and to keep inflation in check. In check being defined as neither too high or too low. By adding money to the economy as it purchases bonds, it hopes to increase the inflation level a bit.

In corporate news, shares of Gymboree rose 22.4 percent after Bain Capital announced that it was taking the children's clothing retailer private in a $1.8 billion deal.

Fed’s Yellen is Concerned Low Rates Encourage Financial Bubbles

Low interest rates can contribute to financial bubbles even if they are not a primary culprit, Janet Yellen said in her first speech as vice chair of the Federal Reserve. At a time of growing concern about the international repercussions of another possible round of monetary easing by the U.S. central bank, Yellen's comments suggested Fed officials are cognizant of the risks to its zero rate policy.

"It is conceivable that accommodative monetary policy could provide tinder for a buildup of leverage and excessive risk-taking in the financial system," Yellen.

Countries from Latin America to Asia have complained rather loudly that the Fed's push toward renewed monetary easing is unduly pushing up their currencies against the U.S. dollar, hurting their competitiveness.

Yellen, until recently the president of the San Francisco Fed and a strong dovish voice at the U.S. central bank, did not directly address the outlook for the economy or monetary policy. Nor did she imply that the threat of bubbles, which has underpinned a string of dissents on the Federal Open Market Committee by Kansas City Fed President Thomas Hoenig, would be enough to dissuade the Fed from easing further.

Markets have all but priced in an expectation that the central bank will boost its purchase of Treasury bonds at its November meeting, an effort to prop up an ailing recovery that has left inflation at levels that some Fed officials consider dangerously low.

Employment, which along with price stability forms the central bank's dual mandate, has also been a key driver of policy. The country's jobless rate is currently hovering at 9.6 percent, and is expected to edge lower only slowly over the next few years.

Still, Yellen spent the bulk of her remarks reviewing the lessons for regulators from the financial crisis. One important thing to remember, she said, is that markets left to their own devices can cause tremendous instability.

If financial markets were viewed as self-correcting systems that tended to return to a stable equilibrium before they could inflict widespread damage on the real economy," she said.

"That view lies in tatters today as we look at the tens of millions of unemployed and trillions of dollars of lost output and lost wealth around the world,” she said.

NABE Pessimistic

The National Association for Business Economics (NABE) said its 46-member forecasting panel cut growth projections for the world's biggest economy, pegging growth for both 2010 and 2011 at just 2.6 percent. In May, the last time the panel was surveyed, it forecast 3.2 percent growth.

"Confidence in the expansion's durability is intact, but recent economic weakness has prompted many panelists to scale back expectations for the year ahead," said NABE president-elect Richard Wobbekind.

The survey was taken from September 2 through 21, and reflected a summer of worse-than-expected economic data suggesting that the recovery was faltering. NABE forecasters said they were more worried about the federal deficit than any other aspect of the economy, even though they expect it to shrink by $100 billion to $1.2 trillion next year.

Unemployment was the second most important item generating concern, with the panel now expecting the worst post-recession job recovery on record. They expect the unemployment rate, now at 9.6 percent, to fall to only 9.2 percent by the end of 2011.

While most of the panel's 46 members felt a recovery in the housing market is intact, about a third expected a retreat after the expiration of tax incentives. The panel overall forecast a tepid 1.2 percent gain in home prices next year, trailing expected inflation of 1.4 percent. The weak jobs market, along with limited stock-market and home-price gains, will keep consumer spending modest, the panel projected.

The panel also expected a bigger trade deficit, but with little impact on growth. Regarding major trading partner China, respondents saw a 33 percent chance China is experiencing an asset-price bubble, up slightly from the 30 percent chance they saw in May.

Optimism in the report was reserved for businesses, with spending on equipment and software expected to advance by double digits through 2011, and profits to rise 25 percent this year and a "strong" 6.9 percent next year.

The panel projected the federal funds rate, historically the U.S. central bank's main policy lever, to tick up to just 0.5 percent by late 2011. The rate is now between zero and 0.25 percent.

Still, tight credit conditions ranked fourth out of 12 possible concerns.