Thursday, September 06, 2012

Stocks Rally on ECB, Jobs, and ISM

Another day, another rally fueled by a central bank. Just a few weeks ago, Mario Draghi, president of the ECB, promised to do whatever it takes to defend the euro. Today, he announced a new "unlimited" bond-buying program dubbed outright monetary transactions (OMTs). Draghi said the ECB would focus on buying bonds that mature in one to three years. There are some hurdles that must be cleared before the ECB executes these so-called OMTs so it isn't entirely clear just how much money the ECB will throw into troubled economies. Other than giving us a new acronym, however, it is unlikely that the ECB will be able to prevent a recession in the European Union.

Stocks got a further boost from better-than-expected numbers about the U.S. jobs market. The ADP report showed a gain of 201,000 jobs in August; and the July estimate was revised up by 10,000 to 173,000. In addition, initial jobless claims fell to 365,000 for the week ended September 1. Both the ADP jobs report and initial jobless claims are on an improving trend.

There was more good news. The ISM services index came in at 53.7 for August, which was better than expected, better than the July estimate, and more importantly, better than the critical level of 50. This means that the services sector is expanding. This is especially critical since the manufacturing sector has been contracting for three months in a row.

As welcome as today's rally is, investors should remain cautious. After all, in the long run, how well the stock market does depends on corporate profits and the health of the overall economy. There is good reason to worry about both. For example, FedEx Corporation recently reduced earnings guidance for its fiscal first quarter, which just ended on August 31. Management blamed the weak global economy. Because FedEx's customers include most of the world's corporations, it is a bellwether of how the business sector is doing. As for the economy, it remains stuck at below 2% annual growth. What's worse, things are even deteriorating in the world's strongest major economy. A key manufacturing index in China fell to a nine-month low.

Despite the need for caution, stocks could still move higher. Tomorrow we get the all-important nonfarm payroll figures. The market is expecting to hear that 130,000 new jobs were created in August. Given today's ADP number, that expectation appears easy to beat. As for the unemployment rate, the expectation is that it will remain steady at 8.3%.

President Barack Obama addresses the Democratic National Convention tonight. When he takes the podium, he will already know what tomorrow's payroll announcement will be. No doubt he will play it close to the vest, but you can bet that a lot of investors will be looking for hints of what to expect in the morning.