Hi Steve
this is what I did for my rotary encoder designs.
http://www.simviation.com/cgi-bin/yabb2/YaBB.pl?num=1093185023
I don't have the part number of the encoder but they have a spst switch function on them as well and are 24 detent. I think they are made by Bourn but any standard 2 bit grey code encoder should work fine.
The problem you describe sounds like a faulty encoder switch to me.
cheers
chuck