Friday's payroll report was inline with estimates but well short of many whisper numbers and traders sold the news to capture profits and avoid the weekend event risk.

Market Statistics

The two big news items for the day were February jobs and oil prices. The Non-Farm Payroll report showed a gain for February of 192,000 jobs compared to the consensus estimate of 178,000. Unfortunately that missed the much higher whisper numbers creating a sell the news event. The market will always find an excuse to take profits.

Actually it was a good report. Private payrolls increased by +222,000 but government jobs declined by -30,000 giving us the +192,000 total. January was revised higher to 63,000 from 36,000 and December jumped to 152,000 from 121,000. That makes the net job gain in this report +250,000.

In the separate Household Employment Survey the unemployment rate (U3) declined from 9.0% to 8.9% and the lowest rate since April when Census workers were being hired. Household employment rose by another +250,000 jobs.

More than 68.2% of private sector industries either added to payrolls or kept jobs at prior levels and that was the highest percentage since the late 1990s.

Despite the technical drop in the unemployment rate to 8.9% the rate is still expected to rise to as much as 9.5% in the coming months as the workforce participation rate rises. More than two million workers are now counted as "discouraged" and not included in the unemployment rate calculation. As hiring conditions improve those workers will begin looking for work again and move back onto the rolls and into the calculation. This will force the unemployment percentage to rise until those workers find a job.

The U3 unemployment rate at 8.9% is defined as "Total unemployed" by the BLS but ignores numerous classes of people currently out of work. The U6 unemployment rate was 16.7% (not seasonally adjusted) in February. The U6 rate is defined as "Total unemployed, plus all persons marginally attached to the labor force, plus total employed part time for economic reasons, as a percent of the civilian labor force plus all persons marginally attached to the labor force." Persons marginally attached to the labor force are those who currently are neither working nor looking for work but indicate that they want and are available for a job and have looked for work sometime in the past 12 months. Discouraged workers, a subset of the marginally attached, have given a job-market related reason for not currently looking for work. Persons employed part time for economic reasons are those who want and are available for full-time work but have had to settle for part-time employment to pay the bills. There were 8.3 million "under employed, part time" workers and 2.7 million considered marginally attached. That is 11 million people not included in the official 8.9% unemployment rate.

According to the BLS there 238,851,000 people between the ages of 16-65 and not institutionalized. (Hospitalized, nursing homes, prison, etc) There are 153,246,000 considered to be in the work force and 139,573,000 are employed leaving 13,673,000 unemployed. 85,605,000 are not considered to be in the workforce.

It is going to take a long time before we can come close to full employment again. Full employment is normally thought to be 4.5% unemployment. Even if we were adding 300,000 jobs per month, which is considered outstanding gains, it would only dent the U6 rate. The economy requires 150,000 new jobs per month just to handle new workers from graduations and immigration. That is how many new workers enter the workforce on average each month. At +300,000 new jobs we would only be reducing the current unemployed workforce by -150,000 per month. If we assume we have to add eight million jobs to get to normal employment levels and a +150,000 monthly rate that would take 53 months or in realistic terms between five and seven years. In fact we may never be at full employment again until the boomers retire and remove 44 million people from the work force over the next decade. That will create an experience drain on the workforce and require younger workers to step up and fill the positions.

Basically even with good monthly numbers we are not going to make much progress for several years but there is light at the end of the tunnel due to the generational shift later this decade.

The jobs numbers on Friday were the highest since December 2006 (+226K) once you eliminate the temporary census jobs in Mar, Apr and May. Those were 90-day jobs and should not count in the big picture. Their terminations caused the declines in Jun, Jul and Aug. Net jobs to the economy were zero. I expanded the chart back to Jan 2005 to show what a "normal" pattern looked like. The high in that period was +305,000 in November 2005.

Payroll Chart

Despite the mathematical slight of hand by the BLS in reporting the unemployment this was a good report and the recent improvements in the regional economic reports suggest March will be even better. The market should not have been disappointed by these numbers because they were in the Goldilocks zone where the Federal Reserve will continue to keep rates low. Had they jumped into the 300,000 range as some expected it might have shocked the Fed into changing their statement when they meet on the 15th.

The jobs report may have gotten part of the blame for Friday's decline but I think its part in the scenario was vastly overstated.

Another report that should have supported the market was the Factory Orders for January. Orders rose +3.1% with durable goods orders rising +3.2%. These are very strong numbers and appears to indicate rising manufacturing with a broad base. Analysts had only expected a +1.9% gain.

The economic calendar for next week is devoid of any material events. The two reports most likely to be of interest will be Jobless Claims and Consumer Sentiment. The next really serious problem for the market will be the FOMC meeting the following Tuesday. The chatter is growing for a change in the statement and it is going to be market ugly when it finally comes. There is a good possibility the current market weakness is related to expectations for a statement change at this meeting.

Economic Calendar

The second topic of the day was high oil prices. The price of crude spiked again as violence increased in Libya and unrest grew in Bahrain, Oman and Yemen. Protests began appearing in eastern Saudi Arabia in the oil producing provinces ahead of the scheduled national Day of Rage protest next Friday. The commitment of traders report showed that hedge funds and big speculators had increased their bullish bets by 30% in the week ending on March 1st and taking their net long positions to a record high.

The tensions in the Middle East and North Africa (MENA) are not going away and every day there is some new story about a new protest with demonstrators killed. The problem is building to a point where we could begin to see production disruptions in other countries. Throughout this crisis the news about Nigeria has been very quiet. Nigeria has a presidential election in April and the MEND rebels normally attack oil pipelines and installations as a means of protest ahead of these national events. Nigeria is a big producer of light sweet crude similar to that produced by Libya. With global supplies very tight today an outage in Nigeria could be the tipping point to significantly higher oil prices.

There is plenty of "oil" available from OPEC but there is very little excess capacity in light, sweet crude. We are very close to "Peak Sweet™" and that is the commodity referenced in the Brent and WTI contracts. If Shell were to announce another force majeure next week for Nigerian light crude we could see prices spike $10 to $15 in a heartbeat.

I reported last week in the OilSlick newsletter that nearly all the oil in floating storage had disappeared. When countries don't have a specific buyer for excess crude or they over produce ahead of maintenance periods they sometimes rent tankers for floating storage. In recent years there has been as much as 90 million barrels of crude in floating storage. In the last two weeks that storage disappeared. It was snapped up by countries and refiners eager to acquire oil while they still could. That 70-90 million barrels in storage was always a cushion against a outage in a producing country. Now it is gone.

On Friday Libyan forces were battling rebels on several fronts and the oil facility at Zueitina was reportedly damaged and on fire. There were also reports of new protests inside Gaddafi's stronghold city of Tripoli. The U.S. and U.K. as well as the Arab League were reportedly seriously considering a no fly zone over the country. The IEA raised its estimate for offline oil production to one million barrels of the 1.6 mbpd Libya was previously producing.

In Yemen demonstrations swelled to hundreds of thousands after the President Ali Abdullah Saleh rejected a plan for him to transfer power. In Bahrain fighting between Sunni and Shiite Muslims injured several people and raised the sectarian hostility level. Shiites are the majority of the population and the country is ruled by Sunnis. If the sectarian violence increases it could spread to neighboring countries and further complicate the political problems.

Two weeks ago it appeared the popup demonstrations in the MENA countries had run their course after several countries announced plans to compromise with the demonstrators. The Mubarak exit in Egypt calmed tensions in the area. Then Libya exploded onto scene and it appeared another turnover might occur rapidly and then return to normal. That is no longer the outlook.

Now it appears the Libyan conflict could last for weeks or even months with a serious hit to light crude supplies. As fighting rages around control of the oil facilities we are likely to see more taken offline. If they are severely damaged by the bombing it could be months before production resumes. The highly publicized events in Libya are encouraging to protestors in other countries. Now instead of compromises they are concentrating on new leadership. We could easily see other civil wars breakout in the near future.

The elephant in the room is the Saudi Arabia Day of Rage on Friday March 11th. That could be the spark that explodes the entire region. Since Saudi has zero tolerance for political dissent and they routinely arrest people for talking negatively against the king, we could see a seriously violent event on Friday OR nothing at all may happen since Saudi has had three weeks to prepare to overpower the demonstrations. If every third person on the street is a policeman it may be hard to get the party started. Saudi officials reiterated on Saturday that it is against the law to protest and warned that security forces will use ALL means at their disposal to prevent any protests from occurring.

The problem today is the uncertainty surrounding the events in not just one but TEN countries at the same time. It is amazing that oil is not $150 already given this level of unrest. WTI oil prices have risen +22% since Feb 18th.

Brent Crude Chart

U.S. WTI Crude Chart

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The talking heads on TV blamed high oil prices for the drop in the equity markets. If that is the case we are going to have a miserable week because I don't see oil prices declining until after the Friday demonstration in Saudi Arabia. Fortunately I don't believe oil prices were the culprit. The dislocation between rising oil prices and declining prices on oil stocks suggests there were other factors at work.

I believe the primary factor for the decline is the expectation for a change in the Fed statement with a secondary factor the reluctance to be long equities over the weekend. The event risk is very high and we are in a trading environment rather than a buy and hold environment. Traders wanted to take profits and sleep easier over the weekend.

A majority of the declines were caused by two sell programs at 10:AM and 12:PM. Those sell programs knocked -16 points off the S&P. Total volume was almost identical for the last three days at 7.7 billion shares each. That shows there was no more downside conviction on Friday than there was on Thursday's big short squeeze. Don't let the market commentators sell you a scenario about market direction based on a teleprompter script written by a journalism intern.

In stock news Goldman Sachs and Citigroup were downgraded by Bank of America from buy to neutral. The BAC analyst said Q1 trading has been "uninspiring" for banks. He said client engagement remains subdued, especially in light of the Middle East unrest. That puts institutions on hold because of event risk.

BAC also cut estimates on Morgan Stanley but left the recommendation at neutral. BAC's top pick in the banking sector is JP Morgan but the analyst cut earnings estimates due to the expected decline in trading. Morgan Stanley and Citigroup shares declined the most at -3%. Citi has been declining for the last couple weeks on a potential for $15 billion in charges.

Citigroup Chart

Marvell Technology (MRVL) dropped -11% after reporting earnings and revenue on Thursday night that came in below analyst estimates. Marvel's report also suggested there was a price squeeze in the smartphone market and prices and margins were going lower. Research in Motion (RIMM) lost -3% after a negative note from Susquehanna about lower selling prices and a declining mix of products. The two events depressed the entire sector.

Marvell Chart

Juniper Networks (JNPR) announced a new optical switch with four times the speed and five times the packet processing power of today's high-end Internet switches. The new switch will be out in beta in August and will be capable of moving 3800 terabits of data per second over the network. The company said this was ten times faster than Cisco's latest high-end product. No wonder Cisco is trading at a 52-week low. Juniper shares only gained +35 cents because the switch is going to be formerly announced at the analyst meeting in San Francisco and it is not even out in beta until August. However, I think this kind of technological improvement will push them higher in the months ahead.

Juniper Chart

Credit card companies could bounce next week if a proposal to delay implementation of fee limits is considered by Congress. Companies claim they stand to lose between $12 and $48 billion in fees due to the limitations in the Dodd Frank financial reform bill. The proposal to delay the fee caps has broad support and lawmakers are expected to try and pass a two-year delay of implementation in order to "study" the impact of the fee limit. What the democrats want is to not have to vote on canceling that provision of the bill ahead of the 2012 elections. The republicans want to delay a vote to kill the provision until after the 2012 elections in hopes of gaining more support with more republicans expected to win in 2012. It sounds like a deal both can agree on since the only real change before the election is a delay. That will enable the credit card companies to continue charging the fees for the next two years and be a tremendous relief for those faced with the sharp revenue cut. One way to play this would be calls on Capital One (COF) or maybe American Express (AXP). I like the AXP chart better for a long position but COF has a large customer base of debit card accounts while AXP is strong in credit cards.

Chart of AXP

Chart of COF

The dollar fell to another three month low and that helped push oil, gold and silver higher. Gold rebounded +16 to close at 1429 and silver closed at $35.32. That is a 31-year high on silver. Analysts claim, on a parity basis with gold, silver should be trading at $100.

Silver Chart

The S&P fell -19 points intraday but came to a dead stop at Fib support at 1313. A short covering rally at the close helped to ease the pain and cut the loss in half. The dead stop at 1313 support was bullish. I am discounting the rebound at the close because I think it was just short covering ahead of the weekend.

The stop at support at 1313 produced a second higher low and that is technically bullish. I realize we are playing with fire here with five major moves in the last two weeks and Friday's close right in the middle of the range. The appearance of various sell programs we saw this week is clear evidence that funds of some sort are taking some profits off the table. If this turns from a random occurrence to a routine event we could be in trouble. It has been months since we had major sell programs on a routine basis. We need to see the S&P move over 1330 to keep the trend alive. A decline back to support 1300 would be troubling and a break of 1295 a change in the three month trend.

S&P 500 Chart - 60 min

S&P 500 Chart - Daily

The Dow found support at 12,100 and has formed a new channel after the higher low on Friday. There is nothing new or dramatic here but the multiple days of triple digit moves is the type of volatility normally reserved for market tops and bottoms. We went for weeks back in the winter where the Dow did not have a triple digit range. Over the last two weeks we have seen quite a few. This volatility is normally attributed to a market top but also appears in a typical correction. As long as the pattern of higher lows and higher highs continues the bullish sentiment will eventually return. At this point a decline back to 12,000 would be a pivotal event and suggest a further decline ahead.

Dow Chart - 60 Min

Dow Chart - Daily

The Nasdaq performed better than the other big cap indexes and gave back only a small portion of Thursday's +50 point gain. This is an even nicer series of higher highs and higher lows than the S&P. Resistance is 2800 but the Friday close puts it within striking distance for a breakout on even a mildly positive day.

Nasdaq Chart - 90 Min

Nasdaq Chart - Daily

The Russell is again the most bullish chart and that suggests market sentiment is improving. Despite the multiple sell programs the Russell gave back only four points from Thursday's gain and appears poised to break out over resistance at 830. This chart confirms my bullish bias.

Russell Chart - Daily

Next week is the two-year anniversary of the 2009 market lows. This will be repeated over and over on stock TV and reporters will question, "Is it time for the monster rally to end?" That depends on how badly they scare traders with the interviews of analysts suggesting they take some money off the table.

Actually that may not be a bad idea. We have been riding a bullish market for months now and there is never a good reason for not taking profits. I am not suggesting we sell everything on Monday morning but it would be a good idea to tighten up your stop losses to make sure you exit with a profit just in case the market takes another dive.

The next ten days have some serious event risk and that uncertainty can produce further market volatility. Specific risk factors would be the FOMC meeting and the market chatter leading up to that event. Another would be the Day of Rage on Friday in Saudi Arabia. The continuing problem in Libya is also a challenge. I heard late today that another 50 opposition fighters had been killed and a couple hundred more wounded. This is escalating to the point where outside nations may decide to intervene.

Those risks and others suggest a cautionary posture for traders. I am not advocating an exit, only tighter stops and smaller positions until after the FOMC meeting on the 15th.

Until then, enter passively and exit aggressively. Pick your entry points carefully and protect your profits by using tight stops.

Jim Brown

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