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Jobs Party Raged On in July, As Second Strong Report in A Row Supports Stocks

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August 5, 2016

(Friday Market Open) The U.S. is still creating jobs in a big way, according to Friday’s July Non-farm Payrolls report. Can the data help light a fire under a sluggish stock market?

The positive trend in job creation appears to be continuing. For the second-straight month, U.S. job growth came in way above expectations, with 255,000 new jobs created in July, the government said. That compared with expectations for around 185,000, and followed June’s huge gains. Headline unemployment remained at 4.9%. In the light of all this positive data, stocks extended gains in pre-market trading.

The government actually revised June’s strong jobs number up to 292,000 from the previous 287,000 on Friday, and even May’s weak 11,000 got a bump up to 24,000. That means the last three months have averaged about 190,000 job gains, almost back to the high levels seen in 2014 and 2015, and the poor May number now appears to have been an outlier.

Going into today’s report, some analysts had expected a jobs number somewhere in between the Q2 average of 147,000 new jobs a month and June’s big number. Instead, the market got a near repeat of June’s lofty levels. That could be seen as something of a surprise, especially considering the sluggish 1.2% gross domestic product (GDP) growth the government reported for Q2 just a week ago.

It also could be seen as indicating more chance of a Fed rate increase sometime this year. Chances of a Fed rate hike in September stood at 18% early Friday, up from 12% earlier this week, according to futures market prices. The likelihood of a December rate hike rose to above 45%.

As far as types of new positions added in July, the quality was mostly good. Professional and business services had the most jobs created, coming in at 70,000 new positions, the government said. Health care rose 43,000, and Wall Street jobs increased by 18,000. Hospitality and leisure added 45,000 new positions. A lot of government positions were added as well, but that appeared to be more seasonal than anything else.

Hourly wages rose 8 cents in July and are now up at an annualized pace of 2.6%. For the month, wages rose 0.3%, compared with pre-report consensus for 0.2%. The solid wage growth provides hints of the inflation the Fed has been seeking.

There are other topics today besides the jobs report. The Bank of England’s (BOE) decision Thursday to cut rates for the first time in seven years remains a subject of debate. Some analysts, speaking on major business media TV networks, questioned the move, saying it may have been premature, as Brexit effects haven’t really taken hold. They also said the decision might put pressure on the U.S. Fed to follow suit, though the futures market shows no signs of that. Yields on U.S. 10-year Treasury bonds fell briefly below 1.5% on Thursday after the news, but climbed back above that level by end of day. The dollar climbed sharply vs. the pound, but the euro didn’t fall very much vs. the dollar.

In general, the U.S. stock market didn’t do much in terms of reaction to the BOE’s move, and that may reflect the law of diminishing returns, meaning the lower rates go, the less effect it has on the economy. Certainly that’s been the case recently in Japan and across much of Europe, where the shift to negative interest rates doesn’t appear to have been much of an economic panacea the last few months.

Oil prices, which had swooned to below $40 a barrel earlier this week for the first time since April, appear to have recovered some of their horsepower, rising to nearly $42 by late Thursday before paring gains early Friday. 

Technically, the S&P 500 Index (SPX) had another solid day Thursday, holding support at the key level of 2159. However, the market was pretty subdued all day as investors awaited Friday’s jobs report, and there was no major rally toward resistance at the 2176 area. Though the index stayed above support, it remains stuck in a rather tight trading range, where it’s been for most of the past two weeks. This could reflect typical slow summer trading, combined with concerns that stock price levels have been on the high side for a while now. Price-to-earnings (P/E) levels are still above historic norms even with somewhat better than expected earnings, and that often limits buying enthusiasm.

S&P 500

FIGURE 1: PRE-JOBS SNOOZE.

The S&P 500 (SPX), plotted through Thursday on the TD Ameritrade thinkorswim platform, seemed to settle into a state of deep slumber this week ahead of Friday’s jobs report. The SPX did hold support at 2159, but didn’t test resistance levels seen at 2176. Data source: Standard & Poor’s. For illustrative purposes only. Past performance does not guarantee future results.

Where’s the Earnings Growth? Right Here: Though S&P 500 earnings are trending toward a 2% overall Q2 decline, there is some sunny news behind the headline number. Five of 10 S&P sectors are projected to report EPS growth for Q2: Consumer Discretionary, Health Care, Industrials, Technology, and Utilities, according to S&P Global Market Intelligence. The energy sector once again is expected to post the largest EPS decline, followed by Financials, Materials, and Telecom. Excluding energy from the mix, S&P 500 EPS would actually be up nearly 3% in Q2. And even with energy results coming up short, 66% of all S&P 500 companies have beaten consensus earnings estimates so far, about an average rate. Looking ahead to potential Q3 earnings, S&P Global projects growth at a positive 0.4%, with seven of the 10 sectors posting positive results. And better yet, in 2017 the energy sector starts to lap these brutal earnings declines, potentially helping S&P 500 companies post 13.8% earnings growth for the year, the research firm said. But 2017 is still a long way off, so let’s see how the next few quarters play out.

Gold Rally Continues, But for How Long? Gold futures, already up more than 25% year to date amid a stew of global uncertainty around negative interest rates, terror attacks, and Brexit, found another reason to rally Thursday when the Bank of England lowered interest rates for the first time since 2009. The question is, how long can the shiny metal keep up this pace? Maybe not much longer. First, the Fed is coming under pressure to raise rates to preserve its credibility, which would potentially be bearish for gold. Though the futures market still sees a low likelihood of a September move, Fed officials have kept the possibility of a hike sometime in 2016 on the table, with New York Fed President William Dudley saying last week it’s “premature” to rule out a rise in rates this year. Also, U.S. corporate earnings have been better than anticipated, a sign of economic strength. These factors seem to play against further upside in the gold market, but gold is volatile, and another shock like Brexit could change things quickly. Even the Bank of England’s move had some analysts speculating about whether the Fed might follow. But the futures market currently shows no indication of a U.S. rate cut any time in the next year.

Keep on Smiling: Imagine the effectiveness of a company’s stalwart product, one used by millions of Americans every day to stay healthy per the government’s advice and with sales growth of more than 4% a year, suddenly being called into question. Maybe the product isn’t necessary after all, the government says. A news story goes over the wires and gets picked up by media across the country. Conceivably, this would be rough news for the company, with a corresponding negative response in stock price. But shares of Procter & Gamble (PG) and Johnson & Johnson (JNJ), two big makers of dental floss, seem to be weathering the storm from earlier this week, when the Associated Press reported that the government said there’s no proof flossing works. Stocks of both companies traded about even in the days after the news broke. While dental floss is a $448 million product in the U.S., according to MarketWatch, it’s hardly a blockbuster for either company. With total quarterly revenue of more than $16 billion for PG and more than $18 billion for JNJ, it’s doubtful either will feel much of a pluck if floss sales fizzle.

Good Trading,
JJ
@TDAJJKinahan

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JJ Kinahan

JJ began his career in 1985 as a Chicago Board Options Exchange...

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