Daily Insight

U.S. stocks gained good ground, although the market remains stuck below the midpoint of the latest range, after the NY Fed Bank reported faster-than-expected factory activity in February. Commodities rallied, with oil jumping the most in four months; the dollar declined.

I came in yesterday morning thinking dollar strength (on euro concerns) would cause pre-market enthusiasm to evaporate as the day wore on. But the opposite occurred, as the dollar weakened and stocks gained momentum as the day progressed.

Energy, basic material and financials shares led the advance. All 10 sectors were up on the session, even the worst-performer – health care – gained nearly 1%.

With roughly 80% of S&P 500 members reporting fourth-quarter profit results to this point, ex-financial operating earnings are up 12.3%. Top line growth, revenues, were up 3.8% for the quarter.

We’ll need to see 5-7% revenue growth for an extended period if we’re going to get both job and profit growth; if firms don’t see top line improvement they won’t hire. Remember the only reason profits are up is because of the slashing of costs via massive payroll cuts. We’ll need big monthly job growth to get this unemployment rate down to even the heightened level of 8% over the next 15-18 months.

Market Activity for February 16, 2010

Empire Manufacturing

The New York Federal Reserve Bank’s factory activity gauge posted the highest reading since October (and the best print since October 2007 outside of that more recent high).

The Empire Manufacturing index accelerated in February, posting a reading of 24.91 (a reading of 18 was expected) after January’s 15.92. The sub-indices of the report were mixed.


This was a strange report. The big increase on the headline reading and you’d expect to see all of the sub-indices posting significant acceleration, but it wasn’t the case.
It was almost completely boosted by the inventory gauge. While this is good, as we’ve been worried that business caution will keep firms from rebuilding stockpiles and therefore hold economic growth from a level that gets some job creation going, it is also important to see the other components follow suit.

That inventory gauge rallied big time, posting a reading of 0.00 for February after -17.33 in January – this ends 17-straight months of negative readings.

The average workweek also posted a nice gain, accelerating to 8.33 from 5.33 in January. Again, this is good news. While it will take larger average workweek readings to get job growth going, the trajectory is helpful. The number of employees rose to 5.56 from 4.00, so a little help there.

Unfortunately, the new orders index (indicator of future factory activity) decelerated to 8.78 from 20.48.

Further, the unfilled orders gauge rose only slightly to 2.78 from 2.67 and the delivery times gauge fell to -6.94 from 6.67; the former remains stuck in lackluster territory and the latter is not even close to where we need it to be. These are very important gauges, as we’ve been talking about for some time, as it shows that factories are still not having trouble meeting orders. It is essential for orders to overwhelm the much lower level of labor resources due to the slashing of payrolls, until it does you can forget about a meaningful increase in employment.

So, the headline reading is very good, but all due to the inventory gauge. While we need inventory rebuilding to catalyze growth, we also need job growth in order for final demand to take hold. Without final consumer demand the economic boost from the inventory dynamic fizzles out two-three quarters down the road and that means economic growth does too.

Treasury International Capital, or TIC, Report

The Treasury Department reported that foreign purchases of U.S. securities during December came in at half the level of the previous month, but that previous reading was one of the largest ever.

Net foreign security purchases rose $63.3 billion in December after November’s $126.4 billion increase. Net purchases of Treasury securities rose $70 billion, following November’s $118.3 billion increase; net buying of agency paper came in flat, no change, after a $5.6 billion increase in the previous month; net buying of corporate bonds fell for a fifth-straight month, down $7.9 billion after -$4.6 billion in November; buying of U.S. equities rose $20.1 billion after a $9.7 billion increase in the month prior.

These numbers are outdated, as it takes time to compile the data. Still, it is important to watch the trend – particularly these days as we’ll need big foreign demand for Treasury securities as we’re issuing record levels of debt -- $2.4 trillion in debt issuance this year alone, yow!.

The December data showed that China was usurped as the largest foreign holder of Treasury securities, Japan has returned to being the largest holder. China reduced their Treasury holdings by $34 billion, while Japan picked up an additional $11.5 billion. In the months ahead, we’ll see if China picked up more Treasuries in January and February due to the European debt and currency markets getting hit.

NAHB Housing Market Index

The National Association of Home Builders gauge of builder sentiment rose to 17 in February from 15 in the previous month. Readings below 50 means most respondents consider conditions as poor.

Rising foreclosures are adding to inventory and are do so in an aggressive manner at some point in the not-too-distant future. The government is offering lenders cash incentives to modify loans, but this is only delaying the inevitable – as we’ve talked about for several months now – as a very high percentage of those modified mortgages are back in default 2-3 months later, as you can see via the “recidivism” chart below. (S&P calls modified loans “cured” loans)

A record 3 million homes will be repossessed this year, according to RealtyTrac, up from 2.82 million in 2009 . Foreclosure filings rose 15% in January and have exceeded 300,000 per month for 11-straight months.

The NAHB’s gauge of prospective buyers held at a reading of 12 last month. Continued low interest rates, meaningfully lower home prices, and the home buyers’ tax credit are not enough to get things moving for the market. It will ultimately take significant job growth to propel the housing market into a durable rebound, and even then it will still have to contend with coming supply from all of these foreclosures.

Have a great day!

Brent Vondera, Senior Analyst