Heroic comeback on financials despite unemployment scare

Kevin Pendley | Sep 05, 2008 4:31pm EDT | Comment

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Small-cap stocks closed higher Friday, finishing off a volatile week on a “good news/bad news” tilt as concerns about global growth and slumping labor markets in the United States took a toll for the week, but didn’t stop an impressive recovery for the day Friday. The big news today was that the unemployment rate in America jumped to 6.1%, which marked the highest level in nearly five years. The Russell 2000 (NYSE:IWM) closed up 0.23, or 0.03%, at 718.95 and is now down 6.1% for the year. For the week, the Russell was down 2.8%. Meanwhile, the Dow was up 0.29% for the day and is down 15.4% for 2008, while the S&P 500 was up 0.44% Friday and now 15.3% lower for the year.

Despite the preponderance of bearish news on the data front this morning, the stock market staged a fairly heroic comeback from the morning lows, powered by a recovery in financial shares, which have beaten down in recent weeks and months. The PHLX KBW Banking Index rallied 4.1%, and the Financial Select Sector SPDR Index rose 2.8%, while key stocks like Citigroup Inc. (NYSE:C), Lehman Brothers Holdings Inc. (NYSE:LEH) and Bank of America Corp. (NYSE:BAC) all posted gains of 4% or more. Even investment banking firm Merrill Lynch & Co. Inc. (NYSE:MER) generated an impressive recovery from the morning lows despite suffering an analyst downgrade by rival Goldman Sachs.

The highly anticipated monthly employment report projected an ugly picture of the labor market, no matter how anyone might try to spin the numbers. Most market watchers were looking for the jobless rate to hold steady in August at 5.7%, or perhaps tick up to 5.8% at the worst … but soaring above 6% was a sobering thought for all. In addition to the dreary jobless news, the headline figure on non-farm payrolls tumbled 84,000 jobs, which was a tad below the forecast for a loss of 71,000 jobs.

“So far this year, 605,000 jobs have been lost. The economy has clearly slipped into a jobs recession because the housing meltdown and credit market turmoil has spread to the broader economy,” Steven Wood, chief economist with Insight Economics, said in an email. “Over the past year, the number of unemployed people has increased by more than 2.24 million and the unemployment rate has increased by 1.4 percentage point. In the post World War II period, every time the unemployment rate has jumped by a full percentage point or more in the course of a year, the economy has been in a recession.”

The bleak picture of the U.S. labor market only contributed to another theme that came to the fore this week … that of global growth worries. In fact, concerns about a global slowdown in economic conditions overtook inflation issues. Crude oil prices slumped below $106 dollars a barrel this week, which should have been a nice rally point for stocks, but the new fear is that commodities are working lower because of sluggish conditions around the world. That issue was certainly in play earlier this week when central bankers in Europe opted to stand pat rather than take a firmer stance on inflation as growth fears overshadowed price pressures.

Even though the U.S. employment picture came in worse than expected, the U.S. dollar managed to extend recent gains on the euro currency, climbing to the highest point since February. The dollar also staged a fairly dramatic comeback against the yen, recovering steep losses first incurred on the jobs release. Normally the combination of a strong dollar and sinking crude oil would be a boon to stocks, but investors appear leery of risk right now in this setting, and instead turned focus on credit markets. Even though Treasury bonds and notes pulled back sharply off the morning highs, demand for credit products was strong this week, sending the yield on those investments (which move inversely to price) to the lowest levels since April.

Tech stocks and small-caps were the laggards on the afternoon recovery bounce, with Nokia Corporation (NYSE:NOK), the world’s largest cell-phone maker, announcing a reduction in its outlook, which wasn’t good news for chipmakers or other phone gadget suppliers. NOK lost 8%, while Research in Motion Ltd. (Nasdaq:RIMM) slipped 0.9%.

Broad market sectors on the decline Friday were highlighted by building products, motorcycle manufacturers, electric utilities, oil and gas storage stocks and metals and mining shares. On the upside, the best performers were diversified banks, fertilizers, paper products, diverse financial services firms, thrifts and mortgage finance companies, coal, regional banks and tobacco.

Individual small caps of note included American Software Inc. (Nasdaq:AMSWA), which was down about 9%. Pike Electric Corp. (NYSE:PEC) tumbled about 15%, gapping lower in the wake of earnings news. Cascade Corp. (NYSE:CAE) shed about 11%, also pulled down by earnings. Spectranetics Corp. (Nasdaq:SPNC), which got hammered to the tune of 47% Thursday, got a decent relief bounce today, climbing back 23% as analysts maintained a “buy” rating on the stock even though it has become a target of a federal probe about its sales and marketing practices.

The chart picture shows some interesting divergence between daily and weekly patterns. The big recovery off this morning’s lows left some bullish patterns visible on daily studies, but the weekly picture is still decidedly bearish, which means that the market better validate today’s bounce right off the bat next week or the weekly formations will take hold. The close in positive territory off bad news formed an impressive “hammer” pattern on daily candlestick charts; these patterns require immediate validation, so it will be important to see a higher opening Monday. Looking ahead to next week, resistance will be at 726 and 748, while support is down at 711.50 and then at 701.