It's becoming clear that institutional investors are expecting big things from the economy over the next two years based on their expectations of stock market performance.

Earlier this month, Citigroup analysts surveyed a group of 81 small- and mid-cap investors and found that the bulls outnumber the bears by a wide margin: 88% are looking for gains beyond 3% this year and none expect losses in excess of 10%.

Furthermore, just 6% believe we will see new market lows in 2010 versus 60% who believe that the March low was the bottom for this cycle.

The takeaway here is that a large number of pros believe the recovery trade is underway and that it will mostly be smooth sailing ahead.

Green Shoots Wither Under Scrutiny

Now, I want to share with you some observations from Gluskin Sheff economist David Rosenberg on why these dreamy expectations are losing touch with reality.

We received a lot of what appeared to be positive economic news in the past week — playing into the green shoot hypothesis perfectly.

Under closer inspection, these data points lose some shine. 

For example, take the 148,000 person decline, to 6.69 million, of the number of folks making continuing unemployment claims. Initially, this sounded like great news as people found work and no longer needed the government's assistance. In reality, it is more likely that people are beginning to exhaust their benefits as the time spent out of work continues to grow. Some 2.6 million people are getting extended or emergency benefits. These don't last forever. 

Another green shoot that withers under scrutiny is the Conference Board's index of 10 leading economic indicators. The index rose 1.2% in May to an eight-month high of 100.2, adding to a one-point gain in April. Unfortunately, nearly 60% of the increase was the result of financial variables: the stock market, money supply, the yield curve. The other 40% percent came from survey data including consumer expectations. If we propose that consumer and investor expectations are overly optimistic, then all we are left with is the Fed's manipulations of the money supply and interest rates. 

True economic variables like building permits, hours worked, goods orders and jobless claims all continue to move lower. Not good.

Job-Market Optimism May Be Premature

Jobs are the bedrock of the economy. People who work buy things, and that allows manufacturers the opportunity to make things, retailers to sell things and banks to finance things. 

Lately, the employment news has seemed to improve just a little, or at least stop getting worse. And I've noted that when companies slash head count, the drop in expense helps them earn more. Both of these have qualified as green shoots.

But after perusing some new data this past weekend, in addition to the Rosenberg study mentioned above, it's beginning to look increasingly like job-market optimism may be premature.