by Shawn Narancich, CFA
Vice President of Research
Green Shoots?
Investors were surprised by the improvement in domestic manufacturing reported Monday. The report showed expansion for the first time in four months and contradicted recent weakness in indicators of regional economic activity. The Fed’s zero-interest-rate policy and stated intentions to buy mortgage securities are having their intended effect, which is to say that the nascent rebound in housing continues. Consequently, some of the increase in new-build activity is beginning to show up in the manufacturing statistics. And despite the implosion of auto production in Europe, which is plumbing depths not seen since the late 1990s, U.S. auto production is rising in healthy fashion, boosted by low interest rates and easier access to credit. The manufacturing Purchasing Managers’ Index (PMI) and auto production growth point to faster domestic expansion that may incent some forecasters to raise their 1.5 to 2.0 percent third quarter estimates of GDP growth.
One Month Does Not a Trend Make
So that brings us to today’s employment report. Bulls will point to the Household Employment Survey (HES) that showed net job creation of 873,000 in September which, if it were the nonfarm payrolls number from the establishment survey, would likely have produced a mad dash into stocks. Notable is the fact that a large number of these jobs were booked on a part-time basis. As such, the underemployment rate—which measures part-timers who would like to be working full time and those still looking for work—remains at an elevated level just below 15 percent. In contrast to the HES, the Bureau of Labor Statistics reported a much more pedestrian gain of 114,000 jobs for September. The unemployment rate fell from 8.1 percent to 7.8 percent because it is calculated using the HES data. Given the propensity for payroll data to be revised, investors will have to see further evidence of sustained payroll gains in both measures before they ascribe a different adjective than “moribund” to the job market. While investors bid stocks up another 1 percent on the week, euphoria following the jobs numbers faded on Friday, and stocks ended nearly unchanged. Benchmark 10-year Treasury yields backed up 11 basis points on the news, trading to yield 1.75 percent.
Meg-Proof
A well-worn saw of the business is that the only constant is change. If only they could say it wasn’t so in Palo Alto! Confirming what a persistently southeast-trending stock chart was telling investors, Hewlett-Packard dropped a bombshell on investors by slashing earnings guidance for the upcoming year. Like quicksand that swallows the unsuspecting who tread on it, the stock plunged 14 percent as a $4.00 earnings baseline that Meg Whitman blessed upon her arrival at HP dropped to somewhere in the $2.00 to $3.00 range. Contrary to what many would have thought, the company’s PC and printer business was not cited for the earnings deterioration. Rather, thank EDS,—the IT outsourcer that HP bought in 2008 for $13.9 billion. The supreme irony here is that HP management cited previous owner (and subsequent EDS client) GM as one that had decided to “insource” its IT needs. Indeed, what’s old is new again. In spite of Meg Whitman’s pedigree, what this week’s revelation indicates is that even she is proving unable to turn the secular tide at HP, leaving the company and its shareholders high and dry.
Earnings season unofficially begins next week with aluminum producer Alcoa set to kick things off Tuesday. What seems almost certain is that the 3 percent drop in large-cap earnings currently forecast by Wall Street is likely to prove conservative. The tale of the tape will be told by where companies place earnings guidance, for a beat in one quarter without a commensurate raise for the year is tantamount to a company cutting its earnings forecast.
Buckle up investors, earnings season awaits.
Our Takeaways from the Week
- The tone of U.S. economic data improved, spurring stocks back to near five-year highs
- Profit warnings have predominated ahead of third quarter earnings set to begin next week