ADP Report Warning Signal Overlooked

Take Heed!

ADP offered its estimate of private nonfarm payrolls Wednesday, but due to the proximity of the data to Friday's Labor Department truth, and given recent comfort with the service sector, we think the market overlooked a glaring warning signal. We cover most of the day's other important data here as well.

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ADP Report Warning Signal Overlooked

We were kept from publishing our market summary last evening. However, we still view Wednesday's data worthy of our review and essential for your knowledge store. The market has been buoyed since Tuesday, on support provided by the European statement of solidarity with the US against China's currency manipulation. Until then, US Congressional action and the words of Treasury Secretary Geithner had introduced volatility. We reiterate that while the American market is important enough to China independently, the combined position of Europe and the US forces China into a weaker bargaining stance with regard to the yuan, and greatly reduces the likelihood of negative counter measures from China or trade war.

Two key labor market reports were published Wednesday, offering some insight into Friday's Labor Department release. However, given the weight of Friday's pending release and the limitations of the ADP and Challenger reports, in recent times, traders have typically waited it out. We think this may offer the insightful an opportunity this time around.

ADP Private Employment Report

ADP Employment Services reported its data on September's private labor market Wednesday, and the news was not good. The report covering the net change in the private labor force serves as a precursor and predictor (for some) for the Labor Department's Employment Situation Report.

September's release showed a net decrease of 39,000 private nonfarm payrolls. The data only offers an estimate really of a section of the Labor Market's aggregate data, which will also contain public payroll changes.

There is no economists' consensus forecast for the ADP report, and so less impetus for market reaction on a higher or lower result. That said, September's news compared against an increase of 10K jobs in August, revised from the initially reported decrease of 10K. Also, it represented a change in direction (despite August's initial negative), and followed seven consecutive months of positive change in the private job market.

ADP rightly notes that those last seven months of growth were negligible, but errs in its determination that this change is therefore insignificant. Rather, the change supports the market's worst fear, that the economy is paralyzed and impotent without government stimulus.

ADP also noted broad-based declines across industry sectors. There was one bright spot, and it should be appreciated, because the dominant service-providing sector showed an increase in payrolls of 6,000 in September, marking the eighth consecutive monthly gain for the important segment. However, it was not enough to offset an employment decline in the goods-producing sector of 45,000.

We were the first to point toward slippage in manufacturing, before there were any signs of it, as we anticipated that panic induced production cuts and capacity concentration would lead to a counter reaction to restock bare shelves (a bounce before normalization to still poor sales levels); and we noted emerging market demand continued. ADP estimates manufacturing employment declined by 17,000, the third consecutive monthly drop, and now the majority of gurus are on board with our forecast for segment concentration.

ADP says construction employment likely dropped by 28,000 during September, and since there have been few projects underway in the residential arena, beware commercial real estate investors. The financial services sector lost 13K jobs in September; perhaps pre-bonus firings played a role here. The environment favors the employer these days, and so few bonuses are secure… and fewer jobs.

Jobs also dropped across all sizes of firms, marking an -11K change in large firms; -14K in medium; and -14K in small firms. ADP's chart also seems to clearly depict a double-dip, and though employment has been historically labeled a lagging indicator, we continue to expect it to act as an anchor this time around, due to the depth and degree of cuts. Further, advances in technology have driven permanent job elimination, with the recession only applying catalyst for the eventual reductions to efficient capacity.

We reiterate (from our weekly copy) that since this estimate from ADP only precedes the more important report by two days, it is limited in its impact potential and rendered mute by the Labor Department's pending truth. Traders are waiting the 48 hours before banking cash or putting it to work, as evidenced by the Dow's fractional move Wednesday. However, if this data point was reported in isolation, it would have weighed heavily on stocks Wednesday. In fact, we expect confirmation of weakness by the Labor Department, barring weird changes in the size of the labor force, will drive home this same message on Friday. To spell it out, I think it's a short-term sell signal, and see the slight Tuesday uptick in the ISM Non-Manufacturing Index (with confirmation for services here) too weak to hold against this weight of labor.

Challenger Job-Cuts

Challenger's data only measures announced corporate layoffs, while excluding hiring activity, but still offers some insight into the corporate mood. The message this month was again characterized by apathy. September's release showed companies planned to fire 37,151 employees, which marked a 7% increase over the 34,768 declared in August. Still, the count was historically low (lowest since June 2000), and compared with 41,676 seen in July.

The words of John A. Challenger, chief executive officer of Challenger, Gray & Christmas, bear noting. He said:

"The low job-cut numbers we are seeing in almost every sector do not necessarily translate into increased hiring. There is hiring going on in the economy, but it is not enough make a discernable dent in the number of unemployed."

Layoffs are cliché at this point, and firing is saturated (if that is scientifically possible or even correct grammatically speaking). It's still true. There's a bare bones level of employment and we must be about there, though the last Treasury Secretary reminds it could have been worse.

We warned in our weekly copy that the count in August was very low, and so an increase in September would not be much of a market mover, unless the aggregate level of layoffs increased significantly; it did not, despite the significant down-shift in the manufacturing space reported by ADP.

We note though that government jobs are disappearing, and not only among census workers. Interestingly enough, given the government's focus on job creation, reductions at the State and municipality level are matter-of-fact at this point, as governments balance budgets by law. Reminding you that as income from taxation has declined, so have available funds for projects, firemen and parking meter readers.

The Challenger report seems to regurgitate many of the musings our readers should be used to, including the arguments on the forecast-fumbling of corporate executives (all too common, but based on flawed economists' views and quick opinions of talking heads). It is interesting that CEO's seem poised to hire, based on survey results regarding future capital spending. This seems to reinforce our view that when traction is eventually taken up, the grip and pull will be strong and swift. So we (America) are poised for it, but it is still nowhere to be found. Meanwhile, the economy is vulnerable to important external factors such as recent notables: Iran (war - oil price & terrorism impact) and China (trade war – to a lesser extent and longer term in nature).

Mortgage Activity

The latest data from the Mortgage Bankers Association showed a curious increase in Purchase Activity, defined as mortgage filings for the purchase of a home. While the Market Composite Index of activity, including dominant refinances, fell by a seasonally adjusted 0.2%, Purchase Applications rose by 9.3%.

After considering the possibility of campaign by a major player like perhaps Bank of America (NYSE: BAC), we are comfortable with the MBA's conclusion regarding the difference. The MBA noted:

"The increase in purchase activity was led by a 17.2 percent increase in FHA applications, while conventional purchase applications also increased by 3.6 percent," said Jay Brinkmann, MBA's Chief Economist. "This is the second straight weekly increase in purchase applications and the highest Purchase Index level since the expiration of the homebuyer tax credit program. One possible driver of last week's big increase in FHA applications was a desire by borrowers to get applications in before new FHA requirements took effect October 4th, which included somewhat higher credit score and down payment requirements."

Contracted rates for 30-year and 15-year fixed rate mortgages improved further, to 4.25% (from 4.38%) and 3.73% (from 3.77%), respectively. Rates are moderating to historic lows on anticipated easing and expansionary action by the Federal Reserve, and on the renewed weakness of the US economy.

Petroleum Status

The EIA reported on Petroleum Status Wednesday as usual. This latest report covering the period ended October 1 showed an increase of 3.1 million barrels. Total motor gasoline stores decreased by another 2.6 million barrels (3.5 million last week). Still, both crude oil and gasoline stocks remain above the upper limit of the average range for this time of year.

Corporate Wire

Motorola (NYSE: MOT) unveiled the Droid Pro, a new smart phone geared to compete against RIM's (Nasdaq: RIMM) Blackberry in the business market. Motorola's shares showed anticipation of the news (we were talking about it along with everyone else), and so there was a let down on the release Wednesday. Also, the company entered into patent infringement suits, raising noise for the stock (perhaps played no role here).

Zumiez (Nasdaq: ZUMZ) and Hot Topic (Nasdaq: HOTT) both reported better than expected September sales, with ZUMZ shares rising 1.5% and HOTT barely appreciating. Family Dollar (NYSE: FDO) held an analysts meeting.

Wednesday's EPS schedule included news from Acuity Brands (NYSE: AYI), CalAmp (Nasdaq: CAMP), Cellu Tissue (NYSE: CLU), Constellation Brands (NYSE: STZ), Costco (Nasdaq: COST), Helen of Troy (Nasdaq: HELE), Immucor (Nasdaq: BLUD), Marriott International (NYSE: MAR), Monsanto (NYSE: MON), Richardson Electronics (Nasdaq: RELL), Robbins & Myers (NYSE: RBN), RPM International (NYSE: RPM) and Ruby Tuesday (NYSE: RT).

The Craig Hallum Capital Group Inc. Alpha Select Conference offered presentations by Caribou Coffee (Nasdaq: CBOU), eDiets.com (Nasdaq: DIET), Numerex (Nasdaq: NMRX), PRGX Global (Nasdaq: PRGX), Jamba Juice (Nasdaq: JMBA), Orbcom (Nasdaq: ORBC), Guidance Software (Nasdaq: GUID), Smart Balance (Nasdaq: SMBL), Stamps.com (Nasdaq: STMP), The Hackett Group (Nasdaq: HCKT), Avantair (Nasdaq: AAIR), LodgeNet Interactive (Nasdaq: LNET), Datalink (Nasdaq: DTLK), Full House Resorts (AMEX: FLL), PC Mall (Nasdaq: MALL), Answers (Nasdaq: ANSW), Delta Apparel (AMEX: DLA), DDi (Nasdaq: DDIC), InnerWorkings (Nasdaq: INWK), Vetro (Nasdaq: VTRO), Ballantyne (AMEX: BTN), Immersion (Nasdaq: IMMR), Inuvo (AMEX: INUV), Summer Infant (Nasdaq: SUMR), Autobytel.com (Nasdaq: ABTL), Physicians Formula (Nasdaq: FACE), Multiband (Nasdaq: MBND), PFSweb (Nasdaq: PFSW), Synergetics USA (Nasdaq: SURG), and Zix Corp. (Nasdaq: ZIXI).

The Johnson Rice & Company Energy Conference offered presentations by Complete Production Services (NYSE: CPX), Newfield Exploration (NYSE: NFX), SM Energy (NYSE: SM), Patterson-UTI (Nasdaq: PTEN), Goodrich Petroleum (NYSE: GDP), Cal Dive (NYSE: DVR), Devon Energy (NYSE: DVN), Carrizo Oil & Gas (Nasdaq: CRZO), Bristow Group (NYSE: BRS), PetroQuest (NYSE: PQ), Chicago Bridge & Iron (NYSE: CBI), Frontier Oil (NYSE: FTO), Dril-Quip (NYSE: DRQ), GeoResources (Nasdaq: GEOI), Patriot Coal (NYSE: PCX), PDC Energy (Nasdaq: PETD), Hercules Offshore (Nasdaq: HERO) and Stone Energy (NYSE: SGY).

The Deutsche Bank Securities Inc. (NYSE: DB) Leveraged Finance Conference offers news from Dana Holding (NYSE: DAN), Gaylord Entertainment (NYSE: GET), MetroPCS (NYSE: PCS), Basic Energy Services (NYSE: BAS), Hertz Global (NYSE: HTZ), Ford (NYSE: F), Leap Wireless (Nasdaq: LEAP), RSC Holdings (NYSE: RRR), Avis Budget (NYSE: CAR), PAETEC (Nasdaq: PAET), Pinnacle Entertainment (NYSE: PNK) and Tenneco (NYSE: TEN).



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