U.S. stocks snapped its three day winning streak on dour economic data.

Futures were positive Thursday morning until a surprise increase in jobless claims to 500,000 and an unexpected contraction in the Philly Fed’s business activity survey reversed sentiment. The dour data overshadowed the news of Intel’s $7.68 billion purchase of computer-security software maker McAfee.

Merger and acquisition activity often boosts sentiment because it can suggest that the financing environment is sound and stocks are somewhat inexpensive.  There has been no shortage of deal activity this week.  According to Dow Jones Newswires we’ve seen mergers and acquisitions totaling roughly $85 billion this week alone. 

Investors piled into Treasury bonds again in response to yesterdays data, pushing yields even lower.  Yields are extremely low, but could move even lower if central banks expand their balance sheets again.  (Check out this week’s Market Minute, which explains what “expanding the balance sheet” exactly means.)

More on the spike in jobless claims after the jump.

Market Activity for August 19, 2010

Jobless Claims

Jobless claims are often very volatile during the summer, but the rise over the past three weeks suggests the labor market is backtracking.  Reaching 500,000 is important from the perspective of market psychology too – it discourages job-seekers and will likely contribute to further market volatility. 

One possible explanation for the uptick in new claims could be that temporary census employers are completing their assignments.  I suppose it’s possible the Census Bureau eliminated more jobs than average this week – census payrolls have fallen by roughly 40,000 per week – but we will have to wait until next week to test the validity of that theory.

Bloomberg’s Chart of the Day from yesterday, which is below, hypothesizes that the extension of benefits at the end of July may be prompting Americans whose assistance ran out to file new claims, making the labor market appear more dismal than it is.  This too seems like a plausible theory.  Notice the large gap between the Initial Jobless Claims (orange line) and Challenger Layoff Announcements (white line) – this suggests jobless claims are artificially high.

Even if either of the above theories is true, labor market improvement is not imminent.  Businesses face great uncertainties about the impact of the healthcare and financial legislations as well as the direction of tax policy.  Unfortunately, business won’t have much visibility on these issues until after November elections and, thus, will remain reluctant to hire any time soon.

Have a great weekend!

Peter Lazaroff, Investment Analyst

Phone: 636-449-4900