"What a Surprise" & " Trick or Treat"

1. LP L FINANCIAL R E S E AR C H
Weekly Economic Commentary
October 31, 2011
What a Surprise
John Canally, CFA As is often the case during the first week of the month, this week is an
Economist extremely busy one for economic data. But the data, which includes key
LPL Financial reports on ISM, chain store sales and the labor market in October, may be
reduced to a side show, given all of the other potentially market moving
events on tap this week. Last week’s batch of economic data — including the
Highlights third quarter gross domestic product (GDP) report-marked yet another week
„ This week is an extraordinarily busy one that the economic data in the United States surprised to the upside. How
for economic data and policy events. much longer can the data continue this pattern?
„ How much longer can the economic data This week (October 31 through November 3) is chock full of key economic
continue to surprise? reports in the United States. But the data itself may only be a side show
given the myriad of policy and corporate events also competing for the
market’s attention this week. The key reports this week include the Institute
Economic Calendar
of Supply Management’s (ISM) report on manufacturing for October, the
chain store sales data for October and of course the October employment
Monday, October 31 Thursday, November 3
report. However, there are several other potentially market moving events
Chicago Purchasing Productivity
Managers Index Q3 on tap, including:
Oct Initial Claims „ Vehicle sales for October
Dallas Fed Survey wk 10/29 „ Challenger layoff announcements for October
Oct ISM-Non Manufacturing
Tuesday, November 1 Oct „ ADP employment change for October
Construction Spending Factory Orders „ Initial claims for unemployment insurance for the week ending October 29
Sep Sep
„ Weekly retail sales for the week ending October 29
ISM Manufacturing Chain Store Orders
Oct Oct „ The ISM’s non-manufacturing survey for October
Domestic Light Vehicle Sales Friday, November 4
In addition, the October ISM report for China is set to be released late
Oct Unemployment Rate
Oct Monday night, October 31, as fears continue to swirl in the marketplace about
Wednesday, November 2 a so called “hard landing”— a sharp and unwanted slowdown in economic
MBA Mortgage Nonfarm Payrolls
Oct growth in China to around 5 or 6% from the current growth rate around 9%.
Applications Index
wk 10/28 Our view remains that China can achieve a soft landing, and that Chinese
authorities are close to taking steps to stimulate the Chinese economy.
ADP Employment Change
Oct The ISM report in the United States is expected to show that manufacturing
Challenger Layoff sentiment improved slightly in October, but remained well below its early
Announcements 2011 peak. The ISM peaked above 60 (a reading above 50 suggests that
Oct the manufacturing sector is expanding, while a reading below 50 suggests
FOMC Decision that the manufacturing sector is contracting) in early 2011. But the ISM
Bernanke Press Conference almost never stays above 60 for very long. In fact, during the middle part of
expansions (mid-1980s, mid-1990s and mid-2000s) the ISM often dips below
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2. W E E KLY E CONOMIC CO MME N TAR Y
1 The ISM Continues To Point To Further Expansion 50 for a month or two without signaling a recession. Historically, a reading on
in the Economy the ISM below 42.5 is consistent with a recession in the United States.
ISM Manufacturing: PMI Composite Index The consensus for the October ISM report (based largely on the October
Seasonally Adjusted, 50+=Increasing readings from the various regional Fed manufacturing surveys that have
70 already been released) is for the ISM in October to move slightly higher to
52.0 from 51.6 in September. The low estimate (among the 82 estimates
60 compiled by Bloomberg) is 50.5 while the high estimate is 53.7. Thus, it
would likely take a reading below 50 or above 54 to substantially move
50
markets when the data are released at 10 AM eastern time on Tuesday,
November 1. The market will also want to pay close attention to the new
40
orders and employment components of the ISM report. The new orders
component is a solid indicator of future manufacturing activity, and the
30
85 90 95 00 05 10 employment reading can provide some insight into the labor market in the
Source: Institute for Supply Management, Haver Analytics 10/31/11 manufacturing sector. The employment reading within the ISM has been
The ISM index is based on surveys of more than 300 manufacturing above 50 in each of the past 24 months dating back to October 2009.
firms by the Institute of Supply Management. The ISM Manufacturing
Jobs remain a key concern for markets, and the October employment
Index monitors employment, production inventories, new orders,
and supplier deliveries. A composite diffusion index is created that report will provide a comprehensive look at the labor market in the month.
monitors conditions in national manufacturing based on the data from Our view remains that the labor market is stuck in neutral. The economy is
these surveys. growing just enough to produce some job growth, but not quickly enough to
(Shaded areas indicate recession) substantially lower the unemployment rate or the number of people filing for
new unemployment benefits each week. In short, the economic, policy and
regulatory uncertainty that is restraining the rest of the economy is still clearly
being felt in the labor market, and only a resolution of that uncertainty will
lead to an improved labor market in the months and quarters ahead.
The unemployment rate — which is derived from a survey of 60,000
households — is expected to remain at 9.1% in October. The unemployment
rate is calculated by dividing the number of unemployed persons seeking
work (about 14 million) by the number of people in the labor force (about
154 million). A 9.1% reading in October would mark the fourth consecutive
month at 9.1%, demonstrating some stability in the labor market, but no
improvement. The unemployment rate peaked at 10.1% in October 2009,
Our view remains that the labor market is
but was as low as 4.4% as recently as early 2007.
stuck in neutral.
The monthly job count is derived from a survey of businesses (140,000
businesses representing more than 400,000 worksites) and has been
conducted each month for more than 60 years. The market is expecting
an increase of 125,000 private sector jobs in October, a slight deceleration
from the 137,000 private sector jobs created in September. Year-to-date
through September, the economy has created an average of 150,000 private
sector jobs per month. This is about the same pace at which the labor force
increases each month, which helps to explain why the unemployment rate
has remained around 9.0% this year. While the private sector is expected to
have added about 125,000 jobs in October, the public sector (federal, state,
and local governments) is expected to see another drop in jobs. In particular,
the state and local government sector has shed jobs in eight of the nine
months in 2011 and in 30 of the past 38 months. In all, state and local
governments have shed 597,000 jobs since mid-2008, an average of about
15,000 per month. We expect this pace of downsizing in the state and local
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3. W E E KLY E CONOMIC CO MME N TAR Y
government sector to persist for the foreseeable future as they struggle to
realign costs with revenues.
This week also features a Federal Open Market Committee (FOMC)
meeting — accompanied by a press conference and a new economic
forecast by Federal Reserve (Fed) Chairman Bernanke, and central bank
meetings in Australia, Iceland, and in Europe. The market is expecting a
rate cut in Australia, and the European Central Bank (ECB) under the new
leadership of Mario Draghi, may also cut rates. The G-20 is set to meet
this week, where the details of the European rescue plan are likely to be
discussed, and 116 other earnings reports and outlooks from S&P 500
companies are scheduled for this week.
Lowered Expectations Opened the Door for the
Economic Data to Beat Expectations
Last week’s batch of data in the United States — which included third
quarter gross domestic product (GDP), along with data on housing,
consumer spending and sentiment — marked another week in which the
economic data in the United States surprised to the upside. How much
longer can the data continue this pattern? If the past three years are any
guide, we may only have a few more weeks of better-than-expected
economic data, as economic expectations continue to move higher.
The Citigroup Economic Surprise Index (CESI) measures whether or not incoming
economic data are beating economists’ expectations. There have been three
distinct periods since 2008 in which the United States economic data has
exceeded expectations, including the current period. The first came as the market
first priced in (and then priced out) another Great Depression in late 2008 and
early 2009. This episode of better than expected data lasted 23 weeks.
The next wave of better than expected economic data came in late 2010
2 Economic Data in the United States Has Been through early 2011, just after market fears of a European debt crisis-induced
Better Than Lowered Expectations Since June double-dip recession pushed economic expectations sharply lower in the
United States Economic Surprise Index (When line is rising, spring and summer of 2010. This wave of good news (relative to lowered
United States Economic Data is Beating Expectations) expectations) began just after Fed Chairman Bernanke hinted at another
150 round of quantitative easing — Fed purchases of Treasuries in the open
100 market — in late August 2010, and lasted until just prior to the Japanese
50 earthquake in mid-March 2011. This episode lasted about 28 weeks.
0 According to the CESI, the current run of better-than-expected economic
-50 data in the United States began in early June 2011, as economic
-100 expectations washed out after a post-Japanese earthquake improvement
-150 in the United States economic data fizzled and fears of a European debt
-200 contagion increased. This prelude was remarkably similar to (and caused
Oct Feb Jun Oct Feb Jun Oct Feb Jun Oct by the some of the same fears) as the period just before economic
08 09 09 09 10 10 10 11 11 11
expectations began to rebound in late 2010.
Source: Citigroup Global Markets 10/28/11
Since early June 2011, more often than not, the United States economic data
has surpassed these lowered expectations. But now 19 weeks into this run of
better than expected data, we are closing in on the average of the prior two
episodes of better-than-expected economic data. Thus, if the past three years
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4. W E E KLY E CONOMIC CO MME N TAR Y
are any guide, we may only have another few weeks of better-than-expected
economic data, as market participants continue to revise up their economic
forecasts, after revising them down while pricing in a recession between the
Japanese earthquake in March 2011 and early June 2011.
Our view remains that the United States economy will avoid recession, but
that growth is likely to remain tepid, at best, over the next year or so, with
the economy growing near its long term growth rate of around 2.0 to 2.5%.
This pace of growth would be enough to avoid recession, but not enough to
push the unemployment rate meaningfully lower.
IMPORTANT DISCLOSURES
The opinions voiced in this material are for general information only and are not intended to provide specific
advice or recommendations for any individual. To determine which investment(s) may be appropriate for you,
consult your financial advisor prior to investing. All performance reference is historical and is no guarantee of
future results. All indices are unmanaged and cannot be invested into directly.
Citigroup Economic Surprise Index (CESI) measures the variation in the gap between the expectations and the
real economic data.
The ISM index is based on surveys of more than 300 manufacturing firms by the Institute of Supply
Management. The ISM Manufacturing Index monitors employment, production inventories, new orders, and
supplier deliveries. A composite diffusion index is created that monitors conditions in national manufacturing
based on the data from these surveys.
Purchasing Managers Index (PMI) is an indicator of the economic health of the manufacturing sector. The PMI
index is based on five major indicators: new orders, inventory levels, production, supplier deliveries and the
employment environment.
The Group of Twenty (G-20) Finance Ministers and Central Bank Governors is the premier forum for our
international economic development that promotes open and constructive discussion between industrial
and emerging-market countries on key issues related to global economic stability. By contributing to the
strengthening of the international financial architecture and providing opportunities for dialogue on national
policies, international co-operation, and international financial institutions, the G-20 helps to support growth
and development across the globe.
This research material has been prepared by LPL Financial.
The LPL Financial family of affiliated companies includes LPL Financial and UVEST Financial Services Group, Inc., each of which is a member of FINRA/SIPC.
To the extent you are receiving investment advice from a separately registered independent investment advisor, please note that LPL Financial is not
an affiliate of and makes no representation with respect to such entity.
Not FDIC or NCUA/NCUSIF Insured | No Bank or Credit Union Guarantee | May Lose Value | Not Guaranteed by any Government Agency | Not a Bank/Credit Union Deposit
Member FINRA/SIPC
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RES 3379 1011
Tracking #1-018727 (Exp. 10/12)

5. LP L FINANCIAL R E S E AR C H
Weekly Market Commentary
October 31, 2011
Trick or Treat
Was last week’s market rally a Halloween trick or a treat for investors?
Jeffrey Kleintop, CFA
Chief Market Strategist
European leaders announced a deal last week that produced a sigh of relief
LPL Financial felt around the world as markets welcomed the news of a breakthrough
in what had been the biggest threat to the global economy and markets
since the 2008 financial crisis.
Highlights
Investors were treated to powerful gains In general, markets last week provided a treat to investors:
last week as European policymakers crafted „ The S&P 500 climbed 4% putting the gain for the month of October on
a deal to avoid a 2008-like financial crisis and
track to be the best month since October 1974 [Table 1].
economic and profit reports in the United
States reflected solid growth. „ Stocks rose sharply in Europe and Asia, led by the banks.
We believe last week’s European rescue „ High Yield corporate bonds rose 2%.
deal is more treat than trick, but the devil
is in the details. Over the long-term,
„ Commodities surged with oil rising 7% and copper surging 15%.
concerns remain about the tricky outlook „ Reflecting a mostly positive outlook for growth, the yield on the 10-year
for economic growth in Europe and the Treasury note rose 12 basis points and traded as high as 2.40% for the
ability of some peripheral countries to meet
first time since early August.
budget targets.
While the stock market is likely to hang We believe the deal is more treat than trick, but the devil is in the details — many
on to the powerful gains made in October, of which remain undisclosed in the statement released by European policymakers
there are still a few of scares coming in last week. There are three broad components of the rescue package:
November that may spook the markets and „ Greece’s debt burden is reduced by a 50% “haircut” on Greek bonds.
reintroduce some familiar volatility.
„ European banks will be required to raise 106 billion euros to temporarily
maintain a higher buffer against additional losses on their bond holdings.
„ The rescue fund will provide guarantees against the first 20 – 25% of
losses on about one trillion euros of European government debt.
Over the long-term, concerns remain about the tricky outlook for
economic growth in Europe and the ability of some peripheral countries
to meet budget targets. Reflecting these lingering concerns and fearing a
trick, many investors in European government bonds sold their positions
pushing Italian and Spanish bond yields higher for the week. Europe
appears headed for a recession as seen in last week’s data included weak
readings on employment, economic growth (as measured by GDP), and
heavy truck sales in Europe.
The long-term success of the European rescue is dependent upon the
members of the Eurozone taking additional steps to adhere to their plans
for achieving financial stability and deficit reduction. Skepticism lingers
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6. W E E KLY MARKE T CO MME N TAR Y
1 Ten Best Months for S&P 500 in Past 50 Years that some nations will successfully hit the targets they have set especially
in light of the recession that many European countries are likely to
Month S&P 500 Price Gain %
experience next year.
October 1974 16.3
Despite the long-term concerns, the stock market may hang on to the
October 2011* 13.6
gains it has achieved in the month of October which were supported by
January 1987 13.2
other positive news that continued last week:
January 1975 12.3
„ The string of solid and better-than-expected economic data in recent
August 1982 11.6
weeks was capped by last week’s third quarter GDP coming in at 2.5%
December 1991 11.2
and a new all-time high in real GDP. (See this week’s Weekly Economic
November 1982 11.0 Commentary for details).
August 1984 10.6
„ Strong and better-than-expected corporate earnings reports are on track
November 1980 10.2 for a 16.3% year-over-year increase with revenues up 10%. Of the 315
November 1962 10.2 companies in the S&P 500 that have reported earnings to date for the
* through October 28, 2011 third quarter, 71% have reported earnings above analyst expectations.
Source: LPL Financial, Bloomberg data 10/28/11 „ Additional policy actions outside of Europe also helped lift markets.
The S&P 500 is an unmanaged index, which cannot be invested into Japan boosted economic stimulus, Turkey cut reserve requirements, and
directly. Past performance is no guarantee of future results.
China pushed lending support for small firms as they prepare to reverse
efforts undertaken in the past couple of years to tighten credit.
We expect these trends to continue into November. As November gets
underway, this week there are several potentially positive drivers for the markets:
„ Important economic data is due to be released including the October
readings on jobs (employment report from the Department of Labor),
business sentiment (ISM), and consumer spending (vehicle sales and
retail chain-store sales). This data should be solid — certainly relative to
investor and consumer confidence readings, but it is getting harder to
surprise to the upside after so many weeks. (See this week’s Weekly
Economic Commentary for details).
„ On November 3, the European Central Bank (ECB) is set to meet. The next
step in a successful plan to stabilize Europe is for the European Central
Bank to cut rates soon to promote growth and lending and reverse the two
rate hikes they made earlier this year. A rate cut by new ECB head Mario
Draghi would be welcomed by markets. In addition, the Reserve Bank of
Australia, Australia’s central bank, may cut rates this week.
„ Small components of President Obama’s jobs bill with a higher likelihood
of passing Congress may be proposed this week.
However, there are some potential negatives on the calendar for November.
„ The government is funded through a continuing resolution that runs out
November 18 and will result in a government shutdown if not extended.
„ The November 23 deadline is looming for the super-committee to vote
on a plan with $1.5 trillion in deficit reduction.
So there are still a few scares coming in November that may spook the
markets and reintroduce some familiar volatility.
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7. W E E KLY MARKE T CO MME N TAR Y
IMPORTANT DISCLOSURES
The opinions voiced in this material are for general information only and are not intended to provide specific
advice or recommendations for any individual. To determine which investment(s) may be appropriate for you,
consult your financial advisor prior to investing. All performance reference is historical and is no guarantee of
future results. All indices are unmanaged and cannot be invested into directly.
The economic forecasts set forth in the presentation may not develop as predicted and there can be no
guarantee that strategies promoted will be successful.
The Standard & Poor’s 500 Index is a capitalization-weighted index of 500 stocks designed to measure
performance of the broad domestic economy through changes in the aggregate market value of 500 stocks
representing all major industries.
International and emerging markets investing involves special risks such as currency fluctuation and political
instability and may not be suitable for all investors.
The ISM index is based on surveys of more than 300 manufacturing firms by the Institute of Supply
Management. The ISM Manufacturing Index monitors employment, production inventories, new orders, and
supplier deliveries. A composite diffusion index is created that monitors conditions in national manufacturing
based on the data from these surveys.
This research material has been prepared by LPL Financial.
The LPL Financial family of affiliated companies includes LPL Financial and UVEST Financial Services Group, Inc., each of which is a member of FINRA/SIPC.
To the extent you are receiving investment advice from a separately registered independent investment advisor, please note that LPL Financial is not
an affiliate of and makes no representation with respect to such entity.
Not FDIC or NCUA/NCUSIF Insured | No Bank or Credit Union Guarantee | May Lose Value | Not Guaranteed by any Government Agency | Not a Bank/Credit Union Deposit
Member FINRA/SIPC
Page 3 of 3
RES 3378 1011
Tracking #1-019341 (Exp. 10/12)