Randomly Noted

In our sporadic, somewhat random, review of commentary about the level of structural unemployment in the U.S., we’ll add some recent comments from Jeremy Grantham of the fund management firm GMO.

They were part of Grantham’s well-reasoned and clearly presented jeremiad at perceived policy overreach by the Federal Reserve, which he maintains doesn’t result in long-term benefits to the economy and creates eventually harmful asset price bubbles.

A reminder about why the debtae on the nature of the high unemployment rate in the U.S. is important. The bigger the portion of the 9.6% unemployment due to structural issues – skills mismatch, geographic mismatch, etc – the less that monetary policy can do to solve the jobless issue, even if all the Fed’s quantitative easing plans work fully as intended. That in itself is a big if…

According to Grantham, by 2007 overbuilding in the housing industry drew about one million additional workers to the sector. The view that housing artificially decreased the unemployment rate has been heard before, but Grantham adds some twists.

He reasons that many of the “lightly skilled” workers drawn to housing would otherwise have fallen victim to another structural unemployment problem caused by increased globalization between 2002 and 2007. Less-skilled work went to lower-wage nations.

“With the housing bust, construction fell below normal and revealed this large increment in structural unemployment,” Grantham recently wrote. “Since these particular jobs may not come back, even in 10 years, this problem may call for retraining or special incentives.”

If there is, as widely perceived, a broad backlash against elected officials in the U.S. for essentially trying to do to much to revive the economy without overwhelming success, something similar may be brewing against an equally important if unelected group of public officials.

Election day, next week, will better prove the level of unease within the populace about the gobs of fiscal stimulus and other programs designed to get things growing. While surely having kept the 2008-09 economy from smashing up completely, these programs leave us still in a slow-growth, high unemployment state of affairs.

The decision makers at the U.S. Federal Reserve won’t have to stand for such a stark verdict on their performance, but recent criticism of coming central bank efforts to spur the economy move along a similar track.

To put the biggest ring around this apparent backlash, we’ll take the outlandish position that it’s about the limits of human ability. Specifically, the question is this: how effectively can human beings manipulate a capitalist economy, part of a larger global collection, as big and complex as that of the U.S.?

If capitalism is built on the notion of an invisible hand guiding millions of self-interested decisions that taken together make the whole increasingly larger, today’s backlash questions the power of the visible hand: that of government action.

In the case of the Fed, its the much-hinted quantitative easing phase II, expected to be announced next week, that’s drawing the latest backlash.

In past posts, I’ve called it fix-it fatigue. It’s a weariness with plans that seem to try to mask some fundamental imbalances that occurred over a long period of time. Those imbalances may need to be sorted out once and for all, no matter how long or painful the process.

The deleveraging of an overleveraged economy. The discovery of a clearing price for housing in an overbuilt market. Those sorts of things.

The Fed’s interest in doing what it can to fulfill its dual mandate of sustainable high employment and steady and controlled inflation is understandable. Quantitative easing simply might not work. It simply could create bigger problems later on.

The backlash says let the Fed try to do less. Here’s Jeremy Grantham, of the Boston-based fund management firm GMO, writing recently: “I would limit its (the Fed’s) activities to making sure the economy had a suitable amount of liquidity to function normally. Further, I would force it to swear off manipulating asset prices through artificially low rates and asymmetric promises of help in tough times …It would be a better, simpler and less dangerous world.”

Noting that some economists believe it can take many, not several, years for economies that are delevering to get back to a steady state, William Gross, managing director of the asset management firm PIMCO, recently wrote: “The Fed, on Wednesday, however, will decide that it is better to keep the patient on life support with an adreneline injection and a following morphine drip than to risk its demise and ultimate rebirth in another form.”

The fix-it fatigue view says too much money, from fiscal budgets and quantitative easing, will pile up generations of debt and create a new round of asset price bubbles. As bad as things are, this argument goes, we’re not collectively clever enough to find short cuts to fix them.

If you think the $4 trillion a day of trading in the FX market is huge, how about this: UBS strategists believe the market will grow to $10 trillion traded daily in 10 years. What UBS sees behind that growth is a bigger role by asset managers in the market – and in many cases, it’s more about diversifying portfolios. As more hedge funds, pension funds, mutual funds and insurance companies make investments around the world, the more need there is for them to have an FX hedging strategy.

It is a market that one would think could be vulnerable to disruptions. But the strategists at UBS don’t see much threat of that – they look back at the financial market “shocks” a couple of years ago and how well the currency markets rebounded. And they don’t see disruptions in international trade having much of an impact.

One interesting side effect – the bigger the market becomes, the more difficult it is for central banks to influence interest rates through intervention – because it would take more activity to have an effect on the markets.

These are tough days for stock pickers.

“Macro” is everything. Broad trends in economics, risk, regulation, currencies, monetary policy and trade are sweeping stocks in one direction or another.

It’s been mostly up lately, but up or down, ‘macro’ has for now made a mockery of the careful study of individual companies and industries to discern the best investment bets.

To be sure, no investment trend lasts forever, but this one has been hanging on for a while.

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Today’s regulatory battles about U.S. corporate governance focus on shareholder power: how much direct influence holders of a company should have to nominate directors or vote on the pay packages of top executives.

In the case of nominating directors, already approved by the Securities and Exchange Commission and now subject to a court challenge, it is the big instiutional shareholders who will get additional power.

A decade ago, the regulatory rage was over more basic things, such as disclosing important information,  and the beneficiaries of a controversial new regulation were the small guys, the seemingly shrinking pool of individual investors.

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More statistical detail was provided earlier this week about a troubling aspect of the U.S. unemployment problem: the number of open jobs has gone up a bit even as the already high jobless rate has risen.

The following numbers were provided by Narayana Kocherlakota, the president of the Federal Reserve Bank of Minneapolis, in the text of a speech he delivered Tuesday in Fargo, ND.

The Minneapolios Fed official was building on an earlier talk in which he cited the so-called structural unemployment issue, saying that up to one third of the 9.6% unemployment rate might be due to factors other than a flattish economy. Those could include a skills mismatch, a geographic mismatch and other factors.

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A look at Morgan Stanley’s earnings report today is yet another example of how the not-very-sexy businesses can be good ones to be in. When people think of Wall Street, they think of investment bankers and traders. And often we hear about the larger-than-life deals and money these folks make. But the banking and trading business can be very volatile, whereas the wealth management business may not grow as steadily but is, well pretty steady.

At Morgan Stanley, the firm reported wealth management revenues in the most recent quarter were $3.1 billion. The quarter before (this year’s 2Q): $3 billion. And the year-ago 3Q was $3.0 billion.

Institutional securities had $2.8 billion of revenues in the most recent quarter. It was $4.5 billion last quarter and $5.0 billion the year before.  In a sense, Morgan has created a hedge against the volatility brought on by sales and trading by being in the wealth business.

We’ve written before about the activist investor saga at the oil giant, Occidental Petroleum Corp., so we thought it only fitting to provide the happy ending, arrived at last week.

The basics of the conflict were that some shareholders thought the long-standing chief executive, 75-year-old Dr. Ray R. Irani, was getting paid too much and that the company didn’t have a good succession plan. Shareholders already had approved a non-binding negative vote on management pay practices. 

There was little doubt that on a relative basis, Irani was quite well paid. The company also has done very well by shareholders. The company produced a total return of 874% for shareholders in the past decade, The Wall Street Journal reported.

The California State Teachers’ Retirement System (CalSTRS) and San Diego money manager Relational Investors LLC were so aggrieved they publicly sent a letter about plans to offer four competing director nominations to Occidental’s board, which they lambasted.

But now peace apparently is the order of the day at Occidental Petroleum. Irani will give up being CEO in May 2011. He’ll serve as chairman through 2014. Stephen I. Chazen, the president, will succeed as CEO. One board seat will go to dissident investors, The Wall Street Journal reported.

Both men will take slimmer though potentially still significant compensation packages. “The direction they moved on the compensation is very good,” said Anne Sheehan, the director of corporate governance at CalSTRS, as quoted in the Journal.

The point made in previous columns on this issue is worth repeating here. CalSTRS and Relational owned about 1% of Occidental’s shares, below the threshhold of the rule recently approved (but under legal challenge) by the SEC that would allow some big holders to nominate directors whose candidacy would be carried on the proxy materials distributed annually by companies.

The point then as now is that big institutional investors are capable, powerful entities that didn’t need the extra and potentially divisive power that will eventually come to them through the SEC’s so-called proxy access rule in order to exert influence at major public companies.

Could the ‘flash crash’ of last May hurt the Federal Reserve’s effort to reflate the U.S. economy? Below is a wholly speculative connect-the-dots execricse that will, if nothing else, report on a disturbing trend in stock market investment.

Let’s start with the Fed’s presumed goals in embarking on another round of so-called quantitative easing, which the central bank is widely expected to launch after its November monetary policy meeting. The Fed is expected to resume purchases of Treasury securities, thereby pumping more money into the financial system.

Some of that additional money is expected to be invested in riskier assets (since bond returns will be held down by Fed buying). Those riskier assets include stocks. Higher stock prices would mean more wealth (at least on paper) and presumed increased consumer spending, leading to more demand, more job creation and lots of other good things.

Even at best, there are a lot of co-dependent events in this scenario.

The new concern is that individual investors appear to be staying out of the U.S. equities markets, despite the third quarter share price run-up that ususally draws them in.

“In the past 25 years, there has never been a three-month gain in the S&P 500 of 10% or more that was not accompanied by net inflows into equity mutual funds and Exchange Traded Funds,” wrote Jeffrey Kleintop, chief market strategist of LPL Financial, citing data from the Investment Company Institute.

Yet so far in the second half of 2010, Kleintop wrote, the S&P 500 is up about 15% and individual investors have been net sellers every week.

Kleintop thinks it has a lot to do with the “flash crash” of May 6, when stock prices swooned historically only to mainly snap back before the day’s trading was done. Individual investors “remain distrustful of the integrity of the U.S. stock market,” he wrote.

Others have cited signs of an increased professionalization of the U.S. stock market, with volumes pumped by high frequency traders. “Without the return of the individual investor to the U.S. stock market, further gains in the current rally may be hard to come by,” Kleintop said.

That brings us back to the stretched causal relationship mentioned up top. A “flash crash-” traumatized individual investor sector might keep stocks from continuing to climb, upsetting the Fed’s strategy for a bit more inflation and more noticeable economic growth.

“We still have a few surprises left for the remainder of the calendar year.”

That’s Steve Jobs commenting on Apple’s strong quarter which saw big increases in computer sales, iPhone sales and the most recent product added to its must-have arsenal: the iPad. The company said it has sold 4.188 iPads in the most recent quarter. That pushes the number sold since launch to nearly 7.5 million units.

Jobs took aim at Smartphone competitor Research In Motion, saying Apple sold more iPhones this quarter than RIM sold Blackberrys in the most recently reported quarter.

One cna only image what Jobs has up his sleeve.