U.S. stocks rallied to a level that has now nearly erased the May/early-June 7% slide – the S&P 500 is just 0.5% below the April 29 three-year high thanks to the bounce of the last eight trading sessions.  A stronger-than-expected ADP Employment report fired the market up despite a less-than-rosy initial jobless claims reading and a cash exodus from European banks.

Unfortunately, these days it’s rare to see a hot equity market without a bullish oil trade also ensuing.  And yesterday, despite the weekly inventory figures falling much less than analysts had expected, crude still rallied to $98.67/bbl and wholesale gasoline back to $3.12/gal. (which, if it holds, will bring $3.75 to a pump near you).

European Central Bank (ECB) President JC Trichet wasn’t bluffing when he said the central bank would remain “vigilant” in fighting inflation as he raised their benchmark interest rate a second time to 1.50% (up from their emergency level of 1.00% where it bottomed).  Now, this level on the central bank’s benchmark rate is hardly “tight,” but relative to the path that Bernanke continues to travel (virtual zero on the fed funds and the cessation of QE is hardly a foregone conclusion) it’s quite the divergence from U.S. monetary policy.

Still, Trichet knows the environment remains chaotic and thus extraordinary decisions continue.  In the press conference that followed the decision he stated that the ECB will suspend its rating requirement for Portuguese bonds (just as they did for Greek bonds) and accept them as collateral even though they now trade at junk status.  Thus, EU banks will continue to receive liquidity in exchange for these bonds so the massive assistance continues to that troubled banking system.  The more you look the more one finds that the financial crisis has hardly ended; it’s just been delayed.

Market Activity for July 7, 2011

Sector Activity for July 7, 2011

Jobless Claims

The Labor Department reported that initial jobless claims remained above the 400K mark for the 13^th-straight week as these claims fell 14,000 to 418,000 – the prior week’s reading was revised up by 4,000 to show that initial claims rose 432,000.  The four-week average fell 3,000 to 424,750.

Continuing claims – those taking benefits for two weeks or more – fell 131,000 to 7.526 million.  The standard issue, those that provide benefits for the traditional 26 weeks, fell 43K to 3.681 million.  The emergency level of claims, that extend benefits out to 99 weeks when the traditional 26 weeks expire, fell 88K to 3.845 million.

As we’ve gone over for several weeks now, one has to assume that the decline in continuing claims has more to do with those benefits expiring than job creation.  With initial claims above 400K, it suggests that layoffs remain too hire to suggest that most of the unemployed are finding jobs.  The long-term unemployment situation (45% of the unemployed have been out work for at least six months – the previous postwar record hit in 1983 was 26%) suggests the same.

ADP Employment

ADP’s survey of private-sector job activity estimated that payrolls rose 157,000 in June after a lousy 36,000 pickup in May.  The June result more than doubled the expected increase of 70K.  This report doesn’t do a very good job of predicting the absolute number we get from the official government report that follows a day or two later (for June it’s a day later as we get the official number this morning), but it does do a somewhat decent job of predicting the general direction of jobs over the ensuing couple of months.

Really the more I think about ADP, I’ve begun to think that it is the better indicator.  The government’s reading is so skewed by the BLS’s Birth/Death number (a straight up guess based on how many businesses they believed were created and how many they believe went under) that the ADP figure may be the more pure number.

The report estimated that service-sector employment rose 130,000 in June (triple the May result) and goods-producing sectors added 27,000 positions – 24,000 occurring within the manufacturing sector; construction-sector payrolls fell 4,000.

The report stated that large firms (>500 employees) added 10,000 positions; medium firms added 59,000; and small firms (<50 employees) added 88,000 – which is quite different from what we’ve been seeing from the NFIB survey of small-business confidence.

So this 157K estimation from ADP is higher than the 125K increase expected when the official figure for private-sector payrolls is reported this morning – a pickup of 100K is expected for total payrolls (the headline number) as economists expect the government shed another 25K.  If the number matches ADP, it will be just enough to cover population growth; we need roughly 300K/month to get the unemployment rate substantially lower in a timely manner.

Same-Store Sales Rock

The International Council of Shopping Centers’ (ICSC) report on year-over-year sales growth for stores open at least a year came in at a rip-roaring 6.9% in June -- I believe the estimate was closer to 5% but Bloomberg doesn’t print what the estimates were for this report.

All categories were hot.  Apparel stores reported 5.5% y/o/y sales growth; luxury was up 9.7%; discount-store sales gained 4.6%; and wholesale clubs (ex-fuel sales) rallied 7.4%.  Of course, price increases helped to drive these readings.  But something else is driving consumer activity – even if the inflation-adjusted figures within GDP remain historically weak.

What is that thing?  For a while we’ve talked about the fact that foreclosures are not being processed in their typical timely manner.  Historically, when a borrower hasn’t made payment for three months the foreclosure process starts and they are out of the home in roughly nine months.  Today, the average amount of time before a delinquent borrower is removed from the home is 17 months and a large percentage of these defaulters have been living rent-free for more than two years.  That provides a lot of available funds when the largest expense has disappeared.

And now the administration is expected to announce that two programs providing unemployed homeowners a few months' forbearance on their mortgages will be extended to 12 months.  USA Today reported this yesterday.

Eventually though, these borrowers will be forced out and will have to begin paying rent; and the housing market will be hit by even more distressed properties.  The government has worked very hard to delay continued economic fallout from the financial crisis/credit bubble, but eventually the inevitable occurs, which is why I remain downbeat on growth potential over the next couple of years.

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Have a great weekend!

Brent Vondera, Senior Analyst

Phone: 636-449-4900