U.S. stocks began the session lower after a preliminary employment report came in weaker than expected and the decline accelerated after the latest gauge of service-sector activity posted the biggest decline since the financial crisis – the slump had higher gasoline prices written all over it.  But stocks came back a bit in the afternoon session as you can’t keep a propped up good market down.  (Was the traders’ dream/consumers’ nightmare of QE3 on the minds of those buying the morning weakness?) 

All 10 major industry groups fell for the day as basic materials, energy (that’s three days in a row for those two) and industrials led the move lower.  Health care, consumer staples, telecoms and utilities outperformed. 

Commodity prices, as measured by the CRB Index, continued their latest decline yesterday -- although I should put this in perspective:  the index is down 3% from the post-crisis high hit last Friday, but we’ve seen worse as there have been two 7% corrections since November that failed to stop the surge (see chart).  The index was led lower by the prices of silver, cotton and the energy complex.  More on energy prices below. 

So the EU and Portugal agreed on the $116 billion bailout Tuesday night (although I suspect there’s a consensus issue as Finland opposes), but this was not enough to assuage investors as the Portuguese had to pay up to auction $1.66 billion in three-month bills – 4.625% vs. the 4.046% in the April 20 auction, and the bid-to-cover was weak at 1.9.  Confidence over these bailouts appears to be eroding, particularly as investors are realizing there’s no way for the peripheral economies to escape another turn down into recession – Portugal’s economy is now estimated to contract by 2% in both 2011 and 2012 based upon the austerity measures associated with the bailout.  

Despite European woes, the euro continued to gain ground against the U.S. dollar – traders think even less of the greenback as Fed policy continues to bludgeon our currency.  Still, one has to expect a U.S. dollar bounce in the near future as the ECB (EU central bank) is not going to hike rates as much as most people seem to currently expect, in my opinion. 

Market Activity for May 4, 2011

Sector Activity for May 4, 2011

The weekly Energy Department report showed crude oil supplies jumped 3.42 million last week (expected to rise 2.0 million).  This build follows a 6.1 million bbl surge in the previous week and leaves current inventories 16% above the five-year average.  Gasoline demand fell 2.2% last week.

The price of oil has pulled back to $109/bbl from the $114 hit last Friday (and has tumbled to the $106 handle this morning); wholesale gasoline closed at $3.32/gallon, down from $3.47 last Friday (and down another 6 cents to $3.26 this morning).  Traders are taking profits as more economic data weakens.  

Now, these costs remain high and we’ve seen corrections in these commodities that were deeper than what we’ve witnessed to this point, only to watch the rise resume.  But in criticizing Bernanke’s statement that the increase in commodity prices is “transitory,” I’ve mentioned on more than one occasion that he may very well be correct but for reasons that aren’t all that healthy – and certainly not for the reasons that the comments are meant to portray.  These prices are putting the hurt on already weak levels of economic activity and it is an economy that will grind to a halt that will make his “transitory” prediction true. 

Mortgage Apps

The Mortgage Bankers Association reported that their applications index rose 4.0%, but it was all on refinancing activity as purchases barely budged after the previous week’s slide.

Applications to refinance a mortgage rose 6.0% for the week ended April 29, following basically a flat number in the previous week as those apps slipped 0.6%.  Purchases inched up just 0.3% last week after the previous week’s 13.6% slide.  The average contract rate on the 30-year fixed mortgage fell four basis points to 4.76%.

ADP Employment Survey

The ADP/Macroeconomic Advisors’ gauge of private-sector payrolls rose 179,000 in April, which was shy of the 198,000 expectation and halts a two-month string of +200K-plus. 

According to ADP, the service sector added 138,000 jobs, marking the 16^th consecutive month of increase.  Goods-producing payrolls rose 41,000 as both manufacturing and construction sectors contributed.   Manufacturing payrolls rose 25,000, the seventh-straight month of increase, and construction added 9,000 jobs, just the second month of increase since June 2007 – the sector has shed 2.115 million positions since January 2007.

Over the last six reporting months ADP has shown 191K/month in payroll growth on average, while the official government number has averaged 167K/month. 

So the official payroll report will be released tomorrow and it’s expected to show an increase of 185,000 -- +200,000 strictly in private-sector payrolls.  Based on initial jobless claims, one should expect payrolls to average about 175K/month over the next few months.

We may see Friday’s number beat expectations (regardless of the weaker ADP number) as I’ve seen reports that have tax receipts up nicely of late; a larger number would also allow the six-month average to catch up to that of ADP – the government’s figure has a tendency of lagging ADP.   However, payrolls will slow again over the subsequent months to get to that 175K figure, merely a function of Fed policy Bernankfiring as firms must hold expenses down due to the rise in commodity prices.   (We’ll continue to watch jobless claims for clues too.)

ISM Service Sector

The Institute for Supply Management’s gauge of service-sector activity got hit hard in April, sliding to a mediocre reading of 52.8 from a strong 57.3 in March (averaged 58.8 previous three months).  A reading below 50 marks contraction. 

The move lower was mostly due to an 11.4-point plunge in the new orders component, falling to 52.7.  The rest of the internal figures held up pretty well – and of course, price paid were among them. 

It appears higher costs, particularly gasoline prices, had a large adverse effect on the service sector as households shed non-essential purchases.  Ultimately, we’ll have to see how the May data turns out to truly gauge what is going on. 

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Have a great day!

Brent Vondera, Senior Analyst