Digesting Last Week's Jobs Report; Inflation, Manufacturing and Earnings This Week

by: Tematica Research

Last week, the stock market was roiled by a significantly weaker than expected June employment report. For those of you that missed it, according to The Bureau of Labor Statistics, the economy added 18,000 jobs in June. Not only did this miss the 80,000 consensus for the month, but it was also well below the 54,000 jobs added in May and the more than 200,000 jobs per month added in February-April 2011 period.

As I described in my Washington Times column last Friday, I was not looking for a robust job figure for June given a number of contra indicators from several sources including the recent Challenger, Gray & Christmas job cuts report. That report showed job cuts in June were up more than 5 percent compared to June 2010, indicating a reversal to the declining trend touted thus far in 2011. The last time the Challenger, Gray data suggested a year over year decline in job cuts was April. We have to look no further than recent announcements from Lockheed Martin (NYSE:LMT), Callaway Golf (FO), Delta Air Lines (NYSE:DAL), Kmart Corp. and others that job cuts are back in vogue.

Keep in mind, Challenger, Gray reports on private sector jobs but job cuts are also being had in the public sector, and those too are on the upswing. State and local payrolls have shrunk by an average of 23,000 jobs a month over the past three months and according to IHS Global Insight those payrolls are slated to shed up to 110,000 jobs in the third quarter. Those cuts reflect the next step in meeting budget gaps following slashed programs in services as state and local governments look to close their budget gaps. To date, federal payrolls have been relatively flat - obviously this will be interesting to watch amid deficit reduction and debt ceiling talks ahead of July 22, the date by which the White House believes it must strike a budget deal with Congress to avoid a risk of defaulting on the national debt.

Clearly the federal deficit and debt ceiling talks are having a number of impacts on the economy. Arguably, the greatest is uncertainty. Will a deal be in place by August 2? What kind of deal will it be? Will taxes be raised or not?

Those concerns and others are fueling an uncertainty that is leaving many caught in the headlights. According to a recent survey from The Small Business Administration, small businesses (companies with less than 500 workers) cited economic uncertainty as the main reason for holding back on hiring, while another third blamed weak sales.

Adding to that uncertainty is the recent rebound in commodity prices that have seen a likely bottoming in gas prices and even modest price increases in certain markets. Aside from gas, corn prices have rebounded following a larger than expected buy by China, which bought 540,000 metric tons of U.S. corn for delivery after August, according to the U.S. Department of Agriculture. This was more than the 500,000 tons the agency forecast that nation would buy in an entire year. The subsequent rebound in corn prices reflects that this and similar corn buys will keep U.S. grain supplies tight, even as farmers expect a record-large corn crop. The key driver here is also fueling my Rise of the new Middle Class investing theme - economic success in China, India and other markets is translating into greater disposable income that is enabling a number of shifts in spending and consumption. One of the earlier changes is from rice based diet to ones based on protein and the adoption of other middle-class tastes, such as such as milk from grain-fed cows, meat from corn-fed hogs, and foods fried in soybean oil.

With production of these commodities as well as other goods, the rise of the new middle class will be a key driver of inflation in the months to come. Look no further than pork prices in South China's Hainan province, which jumped more than four percent over the past ten days. Pork prices are not the exception as data released over this past weekend from China’s National Bureau of Statistics showed food prices in China were up 14.4 percent in June, a pace faster than May’s 11.7 percent rise. While food prices account for roughly one-third of the basket of good’s in China’s consumer price index, the overall inflation in China continued to accelerate in June, reaching the highest level in 3 years. At 6.4 percent for the month of June, China’s CPI was head and shoulders above the government's annual inflation control target of 4 percent. Odds are, China’s central bank has more tightening to go.

The Week Ahead

As the market and investors further digest the weak June employment data and wrestle with what appears to be an impasse for federal deficit and debt ceiling talks, eyes and ears will turn to this week’s economic data and the beginning of 2Q 2011 corporate earnings reports. While the former is rather light for the first half of this week, the latter will kick off with results from a number of companies, including Marriott International (NYSE:MAR), Yum! Brands (NYSE:YUM), Google (NASDAQ:GOOG), Mattel (NASDAQ:MAT) and numerous others. The two questions that these and other companies are facing this earnings season are:

  1. Can companies still meet or beat earnings expectations given the weakening economic picture that has emerged in the last few months?
  2. What is the impact of that aforementioned economic picture on a company’s outlook for the second half of 2011, both on its own and compared to Street expectations?

Later this week we will get a number of economic data points - retail sales, both the consumer price and producer price indices, and a fresh take on manufacturing via June’s industrial production and capacity utilization metrics. While both the CPI and PPI are likely to post modest declines, owing to the dip in gas prices, I’ll be watching the manufacturing data closely to see if June’s weakness has abated or continued.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.