U.S. stock indices ended mixed as the Dow and NASDAQ gained ground, while the broad S&P 500 closed fractionally lower.  Mid and small cap stock indices also closed to the downside.

The broad market bounced between gain and loss on several occasions, as traders were conflicted by the positive of a strong manufacturing report yet the negatives of increased jobless claims and speculation the Fed will move to raise the discount rate – I wouldn’t call that a negative but traders don’t seem to like it much.

The discount rate is the rate at which banks can borrow from the Fed.  They last raised the rate on February 18 as they are in the process of normalizing the spread between the discount rate and fed funds – normally disco is one full percentage point above that of fed funds, but the spread was cut to 25 basis points during the crisis and now stands at 50 basis points above fed funds.  Now, it’s not like the market sold off on this speculation, the S&P 500 was essentially flat (but then again the rumor was fairly silly as it is unlikely the Fed would leak this news), but if traders are going to get a bit antsy about an increase in the discount rate, what’s going to happen when the Fed eventually begins to increase fed funds?

The 10 major sectors within the S&P 500 were split as five gained ground, while five declined.  Industrials’ and health-care led the gainers; energy and financials led the declining sectors.

The Dow was boosted by shares of Boeing, 3M and IBM, which accounted for 60% of the index’s gain. 

Market Activity for March 18, 2010

Jobless Claims

The Labor Department reported that initial jobless claims fell 5,000 to 457,000 for the week ended March 13 (pretty much in line with the expectation).  The four-week average dropped 4,250 to 471,250. 

The continuing claims data, which showed some improvement in the previous week, shot higher again.  The standard issue of unemployment benefits (those that last the traditional 26 weeks) rose just 12,000, but Emergency Unemployment Compensation (EUC) claims jumped 353,000 – these claims involve the various extensions to traditional jobless benefits that currently offer up to two years of benefits. 

Last week we talked about, cautiously, how the EUC claims may have peaked but we needed to see follow through in the ensuing week to confirm.  Well, we didn’t get that confirmation.  EUC continues to significantly outpace standard benefits – EUC claims stand at 6 million, while standard claims hover at 4.6 million – and this suggests that the long-term unemployment situation has yet to improve. 

On the initial claims side of things, we need to see the four-week average decline to the 400k level in order to provide evidence that a consistent improvement in monthly jobs gains will occur. 

For the March jobs report, which will be released on April 2, we may very well see a big payroll gain – there’s a good chance that the bad weather of February and the increase in 2010 census workers (that should show up in the data over the next couple of months) will boost the next jobs report to show a 150,000-plus gain.  But the without initial jobless claims falling to 400K, I see no evidence that labor market improvement has a reasonable shot at consistency.  (I’ve been expecting mild job gains, not substantial but consistent, to begin in March/April.   But with initial jobless claims still stuck above the 450K level, it appears an expectation for consistent job growth is premature.)

Consumer Price Index (CPI)

The Labor Department also reported that consumer prices were unchanged in February (economists expected a 0.1% rise) and the core rate, which excludes the food and energy components, rose 0.1% for the month (in line with expectations).  (I’ve got to say, I think it’s inappropriate to concentrate on core inflation readings in this environment as food and energy is where price inflation is going to show up over the foreseeable future.  The Fed continues to place the most focus on this core reading, but it’s a misplaced view, in my opinion.) 

Again just as was the case via the import and producer price data over the previous couple of days, the CPI data was held back by the energy segment as it fell 0.5% for the month – pushed down by a 1.4% drop within the gasoline component; this won’t last as wholesale gasoline is up 12% thus far this month and AAA said on Wednesday night the average price of retail gasoline rose to $2.88, the highest level since October 2008). 

Save gasoline, most of the CPI components were tame.  The outliers were medical care and utilities, which recorded the largest increases, both up 0.5% in March.  The apparel component registered the largest decline, down 0.7%.

On a year-over-year basis, the CPI is up 2.1%.  That’s down from the 2.6% in January and less than the 2.3% rise that was expected. 

Philly Fed

The Philadelphia Federal Reserve Bank’s manufacturing gauge showed activity remained strong within the third Fed district during March.  The index rose to 18.9 this month, following February’s 17.6 – economists had expected a reading of 18.0.  This marks the second regional factory survey for March, illustrating that manufacturing continues to lead the economy.

The sub-indices of the report were pretty much mixed.  New orders remained solidly in expansion mode but did come back to earth with a reading of 9.3 from the very hot 22.7 in February; unfilled orders remained in contraction mode but improved to -4.9 from -7.5; delivery times jumped to 7.9 from -2.1 (these last two figures are the ones I’m watching most closely as they show whether or not current workers are becoming stretched and thus factories will have to boost payrolls; the delivery times reading is hot, yet unfilled orders need to move to positive territory); the average workweek jumped to 7.9 from 1.9, so this shows continued progress and may offset the weakness in unfilled orders (again, from that potential hiring perspective); inventories plunged to -11 from 3.2  in February (which was its first positive reading since September 2007), this shows firms remain reluctant to really add to stockpile levels; the prices paid component rose to 38.6 (highest reading since August 2008) from 32.4, yet the prices received fell to -0.4 from 3.7% (with prices paid significantly outpacing prices received, this does not speak well for profit margins).

Bottom line, manufacturing activity looks good here, but if firms don’t have the confidence to build inventories this seven-month rebound will prove fleeting and improvement in labor conditions will be delayed. 

Have a great weekend! 

Brent Vondera, Senior Analyst

Phone: 636-449-4900