Nonfarm Payrolls for April came in higher than expected and produced a monster short squeeze.
To say everyone was expecting a jobs disappointment would be a serious understatement. After the ADP report on Wednesday came in below expectations at +118,934 compared to analyst estimates at 178,000 the outlook for the Nonfarm numbers was dismal. Everyone was setup for a lower number with the consensus sliding to +125,000 on Thursday. Whisper numbers were even lower. Nobody was expecting a beat.
The payroll report said there were 165,000 jobs created in April. It was a strong beat on the headline number and there were positive revisions as well. March was revised up from 88,000 to 138,000. February was revised up from 268,000 to 332,000. This made the net job gain in Friday's report of +279,000 jobs. That pushed the three month average to +212,000. The rolling three month average has been over 200,000 since December.
The private sector added +176,000 jobs. Most of that was in business services with a gain of +73,000. However, manufacturing employment was flat. Construction jobs declined by -6,000 and goods producing jobs declined by -9,000.
The unemployment rate inched lower from 7.6% to 7.5% and 11.7 million workers. The labor force participation rate held flat at 63.3% and 23 year lows. The labor force grew by +210,000 for the first gain in three months.
However, the U6 unemployment, the broadest measure of unemployment rose to 13.9% or 21,578,000 people.
Here is a key point. The report said there were +165,000 new jobs in April. The number of people working part time for economic reasons rose by +278,000 to 7.9 million. These are people forced to work part time because they can't find full time jobs. If there were 278,000 new part time jobs but the overall workforce only rose +165,000 jobs then full time jobs actually declined.
I believe this is a function of Obamacare. Numerous U.S. companies have already announced they were cutting back on full time employees and adding part time to avoid being forced to pay for health insurance. The FOMC minutes last month said they believe Obamacare is retarding employment for that same reason.
Should we cheer the creation of 278,000 part time jobs or morn the end of the full time work force?
One last point and I will move on. The hours worked declined from 34.6 to 34.4 for April. While that does not sound like much it represents 12 minutes for every worker in the USA of which there are 135,474,000. Obviously tens of millions of workers did not work 12 minutes less but a LOT of people worked a LOT less. A total of 21,385,800 hours less. If you take the average hourly wage of $23.87 in April that amounts to a drop of $323.2 million in wages paid. Businesses supposedly added 165,000 jobs but they paid -$323.5 million less in wages. This is just further confirmation of the trend to hire part time workers instead of full time.
Nonfarm Payroll Chart
Does this Labor Force Participation Rate chart below look like a healthy economy?
Labor Force Participation Rate Chart 1978-2013
The job surprise caused a monster short squeeze at the open but it was on mediocre volume. The Dow and S&P rallied to historic highs and the Nasdaq to a 12 year high. Now we are faced with a new problem. The average monthly job gains over 200,000 since December puts the Fed back in the spotlight. Only two days after they changed their post meeting statement to say the "Fed stands ready to increase or decrease QE purchases as needed" the slowing purchases conversation is now back in the headlines. The Fed changed its statement to suggest they could increase the rate of purchases because the economic data over the last month has been terrible. Several Fed heads had said the Fed needed to accelerate purchases to prevent a new recession. Now those comments appear to be outdated and you can bet the conversation next week is going to revert back to targeting a date later this year to cut back on purchases.
Obviously nobody expects that cutback next month but as soon as the conversation heats up again the market is going to react negatively. If the news headlines this weekend begin that guessing game we could easily see a reaction next week. This is a liquidity driven market and once it appears that liquidity is in jeopardy the fall will be swift and brutal.
The other economic reports on Friday were ignored. Factory Orders for March declined -4.0% excluding transportation orders compared to a +1.9% gain in February. Durable goods orders declined -5.8% and nondurables declined -2.4%. These were the biggest declines since August.
ISM Nonmanufacturing declined from 54.4 to 53.1 for April. New orders declined from 54.6 to 54.5 but backorders declined sharply from 54.5 to 51.5. Employment declined from 53.3 to 52.0. Anything under 50 represents contraction.
ISM Services Chart
On Wednesday we saw the ISM Manufacturing decline from 51.3 to 50.7 and only slightly above contraction territory. New orders improved slightly from 51.4 to 52.3 and backorders rose from 51.0 to 53.0. However, new orders have risen every April since 2007 so there are some seasonal factors at work here.
ISM Manufacturing Chart
The ISM reports, the recent regional Fed surveys and the Beige Book report all show an economy that is slowing. The only material report that has shown a gain in the last month was the Nonfarm Payrolls. That would seem to further confirm the new employment was the move from full time to part time workforce. For every three full time workers you terminate or reduce hours you need to have four workers at 30 hours to replace them. Three of those could be reduced hours for existing full time workers with only one new hire but you get the picture.
The economic calendar for next week is devoid of any material reports. The weekly Jobless Claims will probably start to draw more attention for clues on job growth or the lack of growth. However, claims last week dropped to 324,000 and the lowest level since October 2007. In retrospect maybe that should have attracted more attention and possible upward revisions in the Nonfarm payrolls. We need to watch the weekly numbers in the future for a developing trend.
Also helping support the market on Friday were the comments by Mario Draghi. He said policy makers have an "open mind" on reducing their so-called deposit rate below zero for the first time. That would mean a negative interest rate on deposits parked at the ECB overnight. Rather than paying a miniscule interest rate on deposits the ECB would charge banks to store money there. This would encourage banks to lend the money rather than hoard it. About $157 billion (120 billion euros) is deposited overnight at the ECB. Some analysts believe that even considering such a plan highlights the current weakness in the eurozone.
The key point here is that Draghi appears to finally be ready to take some strong action on reviving the eurozone despite what he warned could have "unintended consequences." Germany's two year note yield fell below zero on Thursday and the 10-year bund yield hit a ten month low. Rates on Belgian, Finnish and French 10-year debt fell to a historic low. Draghi also extended current loan repayment terms from banks to the ECB by a year to mid 2014. Banks under stress can borrow unlimited amounts if they have collateral under the "fixed rate full allotment" program and now they have until mid 2014 to repay.
Draghi appears to have seen the light. Among his other comments were these. (paraphrased)
Time for Europe to pivot towards prosperity and away from austerity.
You can't cut your way to prosperity.
It is not wise to raise taxes in an economic decline.
Draghi has previously said he would "do whatever it takes" to turn Europe around. On Thursday he said "Our monetary policy will remain accommodative for as long as is needed." The concept of charging banks for deposits and turning away from austerity has suddenly energized investors.
Europe may be nearing a turning point in its economic troubles. Several U.S. companies reported last week that their business in Europe had bottomed. It may be too soon to hope for a rebound with analysts expecting -0.1% GDP for the rest of the year but it would not take much of an improvement to turn that GDP positive.
Copper rallied +6.5% on Friday on hopes of improvement in Europe and in the U.S. thanks to the Draghi comments and better jobs numbers. Copper was oversold after the -21% drop since February. It suffered its biggest one day loss in more than a year on Wednesday. However, news on Friday showed that copper in storage in Shanghai fell -12% over the last month and -3% in the last week. Copper in storage at the London Metals Exchange (LME) declined -1,950 tons but they remain near ten year highs. With Draghi promising unconventional action to do whatever it takes and a sudden decline in copper in storage there was a rush to cover short positions in copper. It has a long way to go before copper gets well after the breakdown this year.
The positive jobs news caused a major sell off in the treasury market. The yield on the 10-year jumped an astronomical +7.41% in a single day. Note there are no other candles of that size on this 12-month chart. If the U.S. economy suddenly begins to improve the bond market is going to implode. Treasuries had been improving over the last two months because of the declining economics. Friday's jobs threw a scare into bond holders and it will be interesting to see if it continues or reverses once clearer heads prevail.
Ten-Year Yield Chart
The Nasdaq extended its gains to close at 3377 thanks to another positive day for Apple (AAPL). Shares of the tech giant have rallied +$65 or +16% since the $385 low on April 19th. The Nasdaq bottomed on the 18th and has moved up almost every day since thanks to Apple. This was the best two week rally for Apple in three years.
Despite telling investors not to expect a new device in the coming months the promise to buy back stock and raise the dividend has rescued Apple shares from their monster decline. Comscore helped when they said Apple's share of the smartphone market rose +2.7% for the three month period ending in March. Apple now has 39% of the market compared to 21.7% powered by Android.
Investors and users alike are still confused by Apple's equipment plans and the company does not appear to be in a hurry to spill the beans. That suggests the Apple rally may soon run out of steam. When that happens the Nasdaq will deflate as well.
Linkedin (LNKD) reported earnings of 45 cents that was well ahead of estimates at 31 cents. Revenue was $324.7 million that beat estimates of $317 million. Membership grew to 218 million. LNKD shares declined -14% despite the good news. The bad news was Q2 guidance between $342-$347 million, which was well below estimates at $359 million. Analysts are still bullish on LNKD saying the company has a history of giving low guidance. They typically guide low and then beat severely. The company guidance is for revenue growth of 50% for this quarter and 47-50% for the full year. How many companies are growing that fast today? LNKD declined to support at $175 but I would wait for signs of life before buying into the hype.
Warren Buffett held his annual "Woodstock for Capitalists" event this weekend. That is the annual shareholders meeting for Berkshire Hathaway. As many as 40,000 shareholders show up to party and listen to Warren and others talk about how greed is good if you own Berkshire stock. A main topic on Saturday was his successor. He assured shareholders once again that he and the board had already picked his successor should he die tomorrow. However, he also said that successor could change over time and he had no plans on dying or leaving Berkshire.
The 200,000 square foot meeting hall had booths for each of the more than 80 businesses Berkshire owns. Berkshire earned $4.89 billion in Q1 or roughly $2,977 per share. That was up from $3.25 billion and $1,966 per share in the year ago quarter. Operating profits of $2,302 per share beat estimates of $1,966 per share. Berkshire has $49.1 billion in cash and Warren said the phone is always answered if you have a business that needs a partner.
Earnings will start to slow next week as the Q1 cycle runs its course.
Monday has TSN, APC, EOG, FSLR and SMG.
Tuesday has DIS, EA, Z, WFM, CHTR, DTV, IFF, HFC, FOSL, BMC and MRO.
Wednesday has TM, AOL, SODA, WEN, GRPN, NWS, MNST, TSLA, RIG, ATVI and GMCR.
Thursday AGU, AMCX, APA, CVC, DISH, PCP, SNE, PSA and PCLN.
Friday SLW, TRLG, WCRX, HL, SIRO, AXAS.
With 80% of the S&P reported, 68% have beaten earnings estimates but only 44% have beaten on revenue. The earnings growth so far has been +4.5% and well over the expectations for zero growth. Revenue growth has been a very weak +1.4% according to S&P Capital IQ.
The real take away from the surprise improvement in Q1 earnings is the fact that S&P earnings keep growing despite the sluggish economy. S&P earnings are expected to be $109 dollars for 2013 and $122 for 2014. As earnings grow the target price for the S&P increases without increasing the PE ratio. If the economy began to accelerate and revenue climb then the PE ratios would climb as well. At Friday's close of 1615 and $109 in expected 2013 earnings that represents a PE of 14.8. Using that same 14.8 and the $122 for 2014 earnings the S&P would be valued at 1805. Historically 14.8 is low for an average PE and something in the 16-18 range is typical for a strong economy. You don't have to make too many assumptions to reach the 2000 level for the S&P at the end of 2014. Obviously the path would not be straight up and there would be at least a couple corrections in our path but as long as earnings continue to climb the upper targets will climb also.
Analysts are going to be rethinking year end estimates after last week. When 2013 started with the S&P at 1426 those 1600+ estimates looked a long way off. With the S&P at 1615 on Friday those estimates seem very reasonable if not low. The S&P has gained +13.2% year to date. Reaching to the top estimate at 1673 would be less than a +4% gain from here. Remember, these were the estimates as of December 29th. A lot has changed since then. Of course that +13% gain in just the first four months has to survive the summer in order for any estimate to be considered a miss.
Year end S&P forecasts
The market gains have created yet another bubble. This bubble is in margin debt. In the NYSE report issued last week the amount of U.S. margin debt rose to $379.5 billion as of the end of March. That is only a couple billion below the historic high of $381.37 billion in July 2007. That was the last time the market hit record highs. Since this report was for March the odds are good we eclipsed that high already during the month of April. This is another one of those danger signals along the market's path. However, according to the NYSE there is still $118.9 billion in cash and $168.4 billion in available credit in trading accounts. There is still gas in the tank if investors wanted to use it.
You have seen me claim repeatedly this is a liquidity driven market. The liquidity comes from the Fed's QE along with BOJ, BOE and ECB stimulus. It makes no difference that this is a manufactured market. A rising tide floats all boats. In the last several weeks we have had the additional inflows of cash from Europe after the deposit confiscation in Cyprus.
What appears to the global investor as a strong jobs number will only increase the flow of cash to the U.S. and into our markets. The U.S. is growing at roughly 2% GDP and that is weak but far better than Europe. China is slowing so that rules them out as an investment location this quarter.
The U.S. is the cleanest shirt in the hamper and the jobs number suggests it may have been tossed in the hamper by mistake.
The problem we are facing for next week is the lack of catalysts. There are no economic reports to fixate on. The earnings parade is slowing and we can see the wheelbarrow and shovel brigade following the parade to clean up after companies that made a mess in the street.
What is going to provide the excitement to power stocks higher? The lack of economic reports means there is no wall of worry to climb. I know it sounds silly to say the market needs some catalysts to keep it going but we are a news driven society. News creates opportunity.
It appeared on Friday that investors were saying "Sell in May, no way!" Unfortunately that was not the case. They were actually saying "oh cr*p" when the jobs number surprised to the upside. Nearly everyone was expecting a jobs miss and the resulting market crash. The upside surprise caused a monster short squeeze that pushed the S&P well over 1600.
This is NOT a rally. This was only a short squeeze.
S&P Chart - 5 Min
Because of the squeeze we saw a significant resistance level demolished but it was on low volume of only 6.3 billion shares. With all the major indexes breaking out to new highs we would like to have seen some strong volume to accompany the gains.
The key for next week will be holding the gains. If the S&P were to drop back below 1600 it would be very negative for market sentiment. There is room to run on the upside with no uptrend resistance until 1625. The potential double top formation at 1597 has been negated. In theory the 1600 level should be tested in the next several days and would signal a new leg higher if it holds. Should it fail in May the support at 1580 could easily fail as well and see stronger support at 1540 retested.
The S&P first traded over 1500 more than 13 years ago on March 22nd, 2000. It has taken 13 years and 5 weeks to capture that last 1,000 points.
Remember, out of the last 30+ major economic reports only a handful have been positive. The ADP Employment report just two days earlier was a big miss with jobs coming in at 118,934 compared to March at 158,000 and estimates at 170,000. That report forced people to become even more bearish on the Nonfarm Payroll expectations. Just because the Nonfarm report added 278,000 part time jobs is not necessarily something to cheer about.
Investors will have to decide next week if they want to put more money into the market or take profits after five months of gains.
S&P Chart - Daily
The Dow punched through resistance at 14,865 and briefly traded over 15,000 for the first time. It achieved this feat on the 14th anniversary of its first trade over 11,000. The Dow first traded over 14,000 six years ago. That is a long wait for that last 1,000 points.
The Dow could not hold over 15,000 on Friday on three attempts. That level now becomes the official target for next week. Uptrend resistance is now 15,200 and that gives the index room to run if investors are willing to buy the breakout. Support is well below at 14,700.
I think Disney (DIS) is the only Dow stock with earnings next week so the news flow could be a little sparse.
The Nasdaq gapped higher to exactly where uptrend resistance was waiting. That red line has been on my Nasdaq chart for weeks. I did not move it. This shows that technical traders were parked and waiting when the short squeeze began on Friday. This 3385 level is going to be the hurdle for next week and a successful move over that level would be a clear breakout into blue sky territory. Thank GOOG, AMZN, BIIB and APPL for the big Nasdaq spike. REGN, PCLN, ISRG and GEOS had big gains but their market caps are just a fraction of the big cap leaders so their impact on the Nasdaq was minimal.
Winners and Sinners
Nasdaq Chart - Daily
The Russell 2000 small caps barely made a new high. The old close was 953.07 and Friday's close was 954.42. Compared to the other indexes the Russell was a serious laggard even though it gained +1.5%.
The relative underperformance of the Russell 2000 is a serious warning for next week. For all practical purposes the Russell closed right at serious resistance and the sellers should be out in force.
Fortunately it gives us a very clear line in the sand for a trading signal. If the Russell posts gains from here I would want to be long. However, a decline below prior resistance at 945 would be a sell signal.
Russell 2000 Chart - Daily
Remember, it does not make any difference if this market is making highs because of external influences like the Fed. Our task is to follow the trend regardless of the reason. The market is never wrong. It is the market and it does not follow us, we have to follow it. The current trend is to buy the dips until proven wrong.
Eventually economic fundamentals will matter and the market will seize on some headline as an excuse for a correction. With the Fed, BOJ and BOE in fire hose stimulus mode we should continue to see money flow into equities. If we have another couple days in the bond market like we had Friday we should see some of that money switch to equities as well. This means any correction could be shallow but we are in May. Anything is possible.
Beware the conversations about slowing QE purchases because of the jobs surprise. That could be the wet blanket for further gains.
Enter passively and exit aggressively!
Send Jim an email
"A committee is a life form with six or more legs and no brain."
Robert A. Heinlein