Blog : Penny Stock Week: High-Priced Stocks Face Reality

by Ed Zwirn on June 1st, 2014

Look for range bound trading to predominate in a highly valued market as traders mark time ahead of Friday's May nonfarm payrolls report and monetary policy statements by the European Central Bank Thursday and June 18's U.S. Federal Reserve announcement.

Of the two central bank announcements, this week's ECB policy update, which may include a euro devaluation, is likely to pack the most wallop, at least as far as the longer-term outlook is concerned. Assuming the normally conservative ECB yields to pressure and resorts to negative short-term interest rates to boost anemic European growth, expect further pressure on the U.S. balance of trade with Europe, as prices of euro-priced goods and services cheapen.

Beyond that, investors returning to face the first full trading week to follow the Memorial Day holiday will look to Friday's May jobs numbers, which are expected to show a slowdown from the 288,000 jobs reportedly created in April.

This follows a week which saw the S&P 500 hit another record and the Dow Jones Industrial Average close Friday at 16,717.17, its highest close ever, up 0.7% from the 16,606.27 noted last week on the Peter Leeds site.

At the same time, the broader market outperformed, with the NASDAQ composite gaining 1.4% on the week, following up on a 2.3% gain. Penny stocks, as measured by the Russell 2000 small-cap index, kept up with the Dow to gain 0.7% on the week, a slowdown from the 2.1% rise seen the week before that.

Last week's economic updates reinforced the picture of a winter downturn followed by more a more recent spring thaw:

-- Tuesday morning's durable orders report for April had been expected to show a broad-based retreat, with the overall number registering a 1.3% decline, following March's 2.9% rise. Instead, not only did durable orders rise 0.8%, driven by the transportation sector, in April, the March figure was upwardly revised to show a 3.6% increase. Excluding transportation, the increase came to 0.1% (versus an expected 0.2% decline), following March's upwardly revised 2.4% spike.

-- Thursday's second estimate of Q1 GDP had been expected to make for bleak reading, and so it did. The last time around, the Q1 figure had been pegged at a 0.1% increase. While the consensus had in fact expected the Q1 estimate to descend into negative territory, the 1% GDP decline registered for Q1 was much more pronounced than expected and marked a sharp slowdown from Q4 2013's 2.6% growth and even Q1 2013's 1.1% increase.                                                                                       

-- Friday as expected saw the release of lackluster but relatively benign reports on personal income and spending. Personal income rose as expected by 0.3% in April, following March's 0.5% increase. Personal spending lagged, falling 0.1% following March's upwardly revised 1% increase.

Looking ahead this week:

-- Monday morning is expected to bring news of a continued upswing for construction spending. Look for April to show a 0.6% rise, following March's
upwardly revised 0.7% increase.

-- Factory orders are also expected to show a continued upswing, rising 0.5% following March's 1.1% spike.

-- On Tuesday, the focus shifts to the motor vehicle sector with the release of auto and truck sales figures for May. Although overall vehicles sales dipped to 16 million in April, from 16.4 million in March, analysts point out that this is the first time since 2007 that this figure has hit at least 16 million for two consecutive months. Sales of autos came in at a rate of 5.3 million in April, while trucks sold at the rate of 7.5 million.

-- On Friday, investors will find out how hard an act last month's blockbuster jobs report will be to follow. After months of languishing, April's employment report showed the creation of a respectable 288,000 jobs and an unemployment rate downtick, from 6.7% to 6.3%.

As pointed out in this investment blog in early May, as good as they were, there were downsides to these numbers. For one thing, the drop in the unemployment rate was driven entirely by the exit of the discouraged from the civilian labor force. For another, long-term unemployment remains stubbornly high, with 35.3% of the unemployed having been out of work for 27 weeks or longer as of April, down only slightly from March's 35.8%.

Caveats notwithstanding, the consensus is calling for Friday's May employment results, the last to precede June 18's Fed announcement, to revert to recent trend. The market is apparently pricing in a jobs creation figure of 220,000, lower than the 238,000 average attained over the past three months but higher than the 190,000 average number of jobs created during the 12 months prior to that.

In addition, the unemployment rate is expected to tick up again this time around, with the consensus calling for a 6.4% May rate, up from April's 6.3% Hourly earnings are expected to rise 0.2% after staying flat in April, and the average workweek expected to remain unchanged at 34.5 hours.