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Why ADP’s jobs report forecasts the outlook of May’s BLS report

The ADP National Employment Report is a monthly preview of the Labor Department’s Jobs Report

Automatic Data Processing (or ADP) is a global provider of business outsourcing. It provides a range of services, from human resources to payroll. The “ADP National Employment Report” is published monthly by the ADP Research Institute. It provides a snapshot of the current non-farm private sector payroll data based on actual transactional payroll data. ADP collaborates with Moody’s (MCO) to predict the Bureau of Labor Statistics payroll numbers.

ADP PayrollsEnlarge Graph

Interestingly, the ADP employment report provides a very tight correlation with the BLS’s revised payroll numbers. The BLS revises its payroll data twice, and the ADP number comes out before the first estimate. The BLS’s first estimate is based on roughly 70% of the establishments sampled. The second revision includes another 20% and the final revision adds another 4%. Since ADP’s numbers are based on live payroll data, they’re more accurate than the BLS’s first pass at the numbers.

The ADP payroll data will correspond with the BLS’s private non-farm job numbers. The non-farm payroll number will include public sector jobs, which must be subtracted out to make an apples-to-apples comparison with the ADP report.

Highlights of the report

Private sector employment increased by 179,000 in May. April’s numbers were revised downward from 220,000 to 215,000. In terms of industries, professional and business services increased the most, by 53,000, while financial employment increased by a small amount.

Services increased 150,000, the slowest pace in months, while goods-producing companies added 29,000. This is interesting, given that the ISM non-manufacturing report was stronger than the manufacturing report. Small businesses accounted for 82,000 of the increase, while medium and large businesses contributed 61,000 and 37,000, respectively. Overall, the report shows that the job market continues to expand, but the rate of expansion has moderated since the beginning of the year.

Implications for mortgage REITs

Mortgage REITs like American Capital (AGNC), Annaly (NLY), Hatteras (HTS), and Capstead (CMO) have been at the mercy of the bond market sell-off that began last spring. For them, it’s all about the end of quantitative easing (or QE). The current increasing interest rates environment and a strengthening economy benefits non-agency REITs, like Two Harbors (TWO), the most.

Rising interest rates lower the value of fixed-income assets, especially mortgage-backed securities. When rates rise, REITs take capital losses on their portfolios, and because they use leverage (in other words, they fund their portfolios through borrowed money), any changes in asset prices have an outsized effect on their equity. If the payroll numbers on Friday come in better than expected, a further sell-off in bonds can raise interest rates further as investors bet on recovery and the end of quantitative easing. This would be negative for REITs. Investors who want to take directional bets on interest rates should look at the iShares 20-year Treasury ETF (TLT).

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