FYI | Oct 06 2007
By Rudi Filapek-Vandyck
There’s a golden rule every investor knows if he’s been in the market for long enough: a troubled economy is more likely to surprise on the downside, but a healthy economy is more likely to surprise to the upside.
So what does this tell us about the US economy? Expect market commentators to ask the question whether the Federal Reserve’s 50 basis points rate cut last month was merely over-reaction, if not plain panic, following the release of a surprisingly upbeat set of nonfarm payrolls data in the US on Friday (Saturday morning Sydney time).
Not only did the September figure of 110,000 new jobs beat market consensus of 100,000 but the August figure that spooked the market, and the Fed, last month was revised to 89,000 jobs from an earlier reported net loss of 4,000 jobs. Even July’s figure was revised upwards. What a difference a few weeks can make.
It won’t be long, however, before investors come to realise that somewhere in the background another key question is looming: will the Fed have to reverse course soon – or at least stop cutting further?
Chances are the answer to this question may not resurface for another two months or so and with Alcoa kicking off the Q2 results season on Tuesday the odds seem in favour of further gains for the share market. Already analysts and investors appear bullish. No doubt, a few weeks of positive earnings surprises will provide the market with enough fuel to continue powering ahead.
In case you hadn’t realised it yet: we’re still in the midst of an equities bull market and new records, in all sorts of forms and shapes, should be considered likely.
There will be more negative news headlines from the sub-prime fall-out in the weeks ahead. Few sub-head honchos at major financial institutions will lose their job, divisions will be closed and financial provisions and write-downs announced, record amounts of foreclosures will be repeatedly announced, but as long as the US jobs market remains as healthy as the latest set of data suggests investors are bound to zoom in on the sunny side of life.
All this bull market needs right now is healthy profit margins. The next few weeks could well provide investors with enough confidence to put worries about a global slow down firmly aside, especially since some experts in the US have already been hinting at the fact that overall earnings expectations are low, making positive surprises more likely.
Research In Motion, better known as the manufacturer of the increasingly popular Blackberry, may have given the market a small insight in what can be expected over the next few weeks. Its shares surged nearly 13% after the release of Q2 results that were in-line with analyst expectations, but management gave a higher than expected guidance for Q3.
The Dow Jones Industrial Average rose 91.70 points, or 0.66%, on Friday to close at 14,066.01, after briefly touching a record intraday high of 14,124.54. The S&P 500 gained 14.75 points, or 0.96%, to 1557.59, which is an all-time closing high. The Nasdaq Composite surged 46.75 points, or 1.71%, to 2780.32.
Friday marked a remarkable set of four weeks during which major stock market indices managed to close each single week with a gain over the preceding week. Over the past week the Dow has added 1.2%, the S&P 500 added 2%, and the Nasdaq jumped 2.9%.
US Treasury prices were sharply lower on Friday’s data. The 10-year note was off 1-2/32 in price, pushing the yield to 4.65%. The 30-year bond was tumbling 1-24/32 in price, yielding 4.87%.
Looking past the headline figures of Friday’s data release, economists were quick on their feet to point out the September nonfarm payrolls data were less bullish as they appeared at face value.
Wachovia chief economist John Silvia pointed out that job gains have now climbed to 97,000 on average over the last three months compared to average gains of 135,000 over the past year. This seems to point into the direction of slower job growth which may still indicate slower income and production gains lay ahead for the US consumer. Silvia believes investors should still expect real GDP growth to fall below trend in the second half of this year while unemployment at 4.7% and believed to be on the rise and wage growth of 4.1% raise “some inflationary concerns”.
Others pointed at the fact that August’s revision (+93,000 jobs) was almost entirely made up of goverment jobs which went from minus 28,000 to plus 57,000 (a revision of 85,000).
Employment in the private sector is now growing at some 73,000 per month but the US labour force is growing at closer to 120,000 per month signaling US unemployment is bound to creep up further over the coming months, economists say.
According to BCA Research, most of the payroll weakness in the US remains in housing related sectors. While the downturn in these areas is not over, other parts of the US economy seem to be healthy still. More importantly, these other parts will benefit from easier monetary conditions, not only due to last month’s interest rate cut but also because of a weak US dollar.
BCA sticks to the view that the US economy will expand at sub-par pace in the months ahead and thus more monetary relief should be expected. The economists do concede that following Friday’s payroll report, chances have increased the Federal Reserve may decide to leave interest rates unchanged next month.
Monday is Columbus Day in the US with fixed income markets closed but equity markets will be open.
