Report from Europe: Non Farm Payrolls to Bring the Bears Out

by: The Mole

After what was a yawnfest Friday morning, the afternoon session started with the key Non Farm Payrolls which were weaker than expected across the board. Payrolls fell -190k vs. the -175 the market expected. The Household survey showed a dramatic decline of -589k and the U.S. unemployment rate shot up to 10.2% (a 26-year high). Manufacturing, construction and retail trade all showed bigger losses in jobs than expected. In fact, the only reason payrolls did not fall further was the increase in government employment. Hours worked failed to increase, which is a major negative as it means that employers are nowhere near the hiring phase. The length of unemployment is at an all time high of 26.9 weeks.

There was also a big jump in temp jobs (i.e. skilled workers serving burgers and fries at McDonalds (NYSE:MCD)). Average hourly earnings were up 0.3, which will trigger some concerns about inflation pressures building, but Washington will be concerned about this payrolls number and I would not be surprised to see some kind of job tax credit being discussed to incentivise employers into hiring. In my view, this completely takes off the table any hint of higher rates or reduced liquidity provisions until late 2010 or even into 2011, as the Fed specifically told us Wednesday that they were looking at slack in resource utilisation (employment) as one of their key triggers. And if you thought that was gloomy, the doomiest among us are obsessed with U-6, also known as The Real Unemployment Rate, because it measures discouraged workers who aren’t actually looking for work. Anyway, that number soared to 17.5% from 17% last month. That’s a huge month-over-month jump.

But it’s Friday and no one seems to care as the Dow has opened up. To the upside, we have graphic chips maker Nvidia (NASDAQ:NVDA), who came in with an EPS of 19c versus the expected 10c, and were back drinking overpriced coffee as Starbucks (NASDAQ:SBUX) is bid after posting EPS of 24c against the 15c consensus. As the FOMC outlines it, conditions necessary for a rate hike, it is apparent that the Fed can see through the catalysts for the recent outperformance of corporate earnings versus expectations. Heidelberg’s results this week was typical of an earnings surprise driven by dramatic cost rationalisation raising margins while revenues are just stable. We have seen this across the corporate spectrum as destocking and margin improvement through cost cutting has been mistaken for growth. Instead we are robbing Peter to pay Paul by reducing capacity to grow in the future.

Today’s Market Moving Stories

  • UK Chancellor of the Exchequer Alistair Darling said, “I think we can reach agreement on firstly making sure we don’t remove support too early because the recovery is by no means established everywhere.” He also says that currency moves and the weakness of the USD are not on the main agenda of the meeting. However, he notes: “There is a lot of volatility in exchange rates and other markets we have seen for perfectly obvious reasons. I think this weekend people are looking at medium and long-term issues.”
  • As Gold hits a new record high of $1,098.50, Sri Lankan central bank governor Ajith Nivard Cabraal said that the bank is “accumulating” gold. He adds that “we did experience this huge currency volatility during the time of the crisis that gave us the feeling that we need to save in something more solid.” The purchases were estimated at 5 tons so far but that this figure hasn’t been confirmed by the bank.
  • German factory orders for September rose a smaller than expected 0.9% month-over-month. This is a seventh consecutive monthly rise.
  • China’s State Administration of Foreign Exchange says (when asked by Reuters if it will buy any of the gold that the International Monetary Fund is seeking to sell) that it gives consideration to long-term risk and returns in deciding how to invest its holdings. It did not comment directly on whether it would consider buying any of the IMF gold.
  • People’s Bank of China’s Fan says that their FX reserves diversification will be gradual. The domestic economy will see a sustainable recovery and will grow by 8% next year.
  • In Japan, the Cabinet Office’s index of coincident economic indicators rose a preliminary 1.3 points in September from August, the sixth straight monthly gain. The Cabinet Office upgraded its assessment of the index, saying it could signal the economy was turning upwards. Finance Minister Hirohisa Fujii said that he wants to discuss the world economy with US Treasury Secretary Timothy Geithner during his visit next week.
  • While You Were OutA man after my own heart, the ECB’s Nowotny believes that Europe’s economic recovery is “very weak” and the inflation outlook is “very low”.
  • On the cusp of the holiday buying season, US retailers are finding consumers still exercising restraint. Retail-sales figures for October came in below expectations, rising 1.8%, with mixed results from department stores and a poor performance from teen retailers. The weekend of “Black Friday,” the day after the US Thanksgiving holiday and the busiest shopping time of the year, will be the next test for retailers.
  • Banks outside the US would have to report expected losses on their lending much earlier, under proposals published by the International Accounting Standards Board. The plans represent a virtual u-turn from the current system and would allow banks to provide for expected losses over the duration of a loan, rather than, as now, waiting until the losses have occurred, a practice blamed for adding to banks’ accounting burden.

Heavy Metal
To the extent that the impressive recovery in base metal prices this year has been driven by current fundamentals (as opposed to expectations and the wider risk rally), a key factor has been the huge increase in Chinese imports. But although Chinese metals demand has staged a remarkable rebound since the start of 2009, it is widely recognised that much of the imported material has nevertheless gone into stockpiles of various types. It is difficult to pin down the tonnages and to identify the type of stockpiling involved, but I am convinced that much of it has been speculative. The stockpiles are a potential burden and constitute one of the headwinds I foresee for 2010. Yet the individual metals vary greatly on both counts and the differences potentially have major implications for future relative price performance.

The type of stockpiling involved also points to nickel being much worse placed than aluminium. Nearly half of the aluminium stockpile is in the relatively strong hands of China’s State Reserves Bureau (SRB), whereas I believe that most of the nickel stockpiling has been much more speculative. Equivalent contrasts suggest that zinc is worse placed than copper, not least because, of the three metals held by the SRB, copper’s is the only true strategic stockpile.

I remain basically bullish of base metals. However, they now face strengthening headwinds, including producer restarts and the winding down of various ‘cash-for-clunkers’ schemes, as well as economic/financial tail risks that could result in growth below current market expectations. The Chinese stockpiling may have become another headwind.

Equity News

  • Kraft (KFT) will have to bid for Cadbury (CBY) by the Takeover Panel’s deadline of Monday 9th November, otherwise it will have to walk away for at least six months. Kraft’s lackluster top line progression, revealed in its Q3 results earlier this week, adds further doubts whether they will be successful. Indeed, I believe there is a better than even chance Cadbury remains independent (say 55-60%), although this does not preclude a bid being made.
  • Rentokil (OTCPK:RTOKY) released their Q3 results and they were a significant improvement on results for the last five years, although this had been guided by management. Operating profit rose by 34.9% to £59.8 million, driven by cost savings and efficiency programmes. Sales actually fell by 3.2% on a constant currency basis.
  • Tate & Lyle (OTCQX:TATYY) saw their H1 broadly in line with expectations, which were albeit raised in the recent trading statement. Having said that, operating profit at £148 million was down 16% on a constant currency basis.
  • Lafarge (OTCPK:LFRGY) Q3 results this morning were a real mixed bag as sales of €4,252 million fell by 16% on a like-for-like basis (being a noteworthy miss on consensus expectations of €4,616 million) whilst EBIT of €852 million was down by 22% (but in line with expectations). EBIT margins therefore held up better than the street had wanted.
  • What a difference a year makes. From the depths reached in the fourth quarter of last year, the UK housing market has improved considerably off this low ebb. Barratt Developments and Redrow attested to this improvement earlier this week. They now have been joined by Galliford Try, the mixed housebuilding and construction group. Galliford Try, in an IMS covering trading since the start of January, says that it is operating in a “stable housing market”. Even though the group has 18% fewer open sites, reservations are up 7% – suggesting a marked improvement in the rate of sales. Cancellation rates have fallen from 28% to 12%. Galliford Try notes that it is “cautiously optimistic on the immediate outlook for housebuilding”.

And finally... Rock 'Em Sock 'Em Banksters

Just imagine an Irish version! How much would you give to knock seven bells out of Sean Fitz or David McWilliams!
Disclosures: None