The Gilmo Report

April 14, 2013

April 13, 2013

The market’s four-day rally off of the lows of two Fridays ago after the market initially gapped down and sold off following a very feeble Bureau of Labor Statistics jobs report finally slowed up by Thursday as the NASDAQ Composite Index, shown below, ran into a bit of churning on heavier volume. Friday saw the indexes sell off earlier in the day but by the close had managed to recover and close near the top of the price ranges. This is an interesting time for the market, because breadth is not quite what you would expect given that all the indexes are up at higher highs and the S&P 500 has now joined the Dow Jones Industrials in all-time high territory. For example, on Thursday the NASDAQ exchange saw declining stocks lead advancing stocks on what was an up day, while Friday’s recovery off the lows still saw a similar internal, negative skew with respect to the advance/decline and up-volume vs. down-volume numbers. On Friday decliners led advancers by 17 to 11 on the NYSE while down volume on the NYSE exceeded up volume by more than 2-to-1. Friday’s NASDAQ advance/decline numbers showed decliners ahead by a margin of 14 to 10, while down volume ended ahead of up volume by a ratio of more than 8-to-6. Thus, again we see this phenomenon where the indexes continue to move higher but the market’s “internals” do not necessarily confirm the strength seen in the indexes. We are also seeing a shift away from the “risk-on” small-cap names as the Russell 2000 is now lagging the big-name market indexes.




News that Cyprus might have to sell all of their 13 tons or so of gold in order to facilitate their bailout sent the precious metals in a death spiral to the downside Friday. While Cyprus’ gold holdings don’t’ amount to much in the grand scheme of things the news did suggest that other troubled European sovereigns might engage in similar gold dumping, and this was enough to send gold crashing through a key support level at 1526, as the weekly chart of the gold futures, below, illustrates. A week ago I suggested that the “backwardation” seen in precious metals prices might be suggesting some sort of liquidity issue somewhere, and Friday’s inspired selling of gold and silver was due to concerns that European countries would seek to enhance their own liquidity by selling their gold holdings. The last time we saw the precious metals start to break down like this was in late 2008, just before the market came apart in a deflationary collapse. This took gold down over 30% from its peak of $1053 an ounce, and an equivalent correction today would take the yellow metal down to around the $1300 level, more or less. Once the selling is done, however, this could set up a buying opportunity in the metals once the selling subsides.




Thursday and Friday did see some scattered constructive action in certain stocks, such as big-stock NASDAQ online travel name (PCLN), which has been working on a big, ugly base since last April, as we see in its weekly chart, below. On the daily chart the stock traded enough volume to make the breakout from an 11-month cup-with-handle formation valid, but the weekly volume was relatively light. Over the weekend, Barron’s magazine panned the stock so we might see a pullback in PCLN on Monday. PCLN is expected to churn out 20% earnings growth or so, and in this environment big-cap stocks with 4% earnings growth have been able to move higher, like McDonald’s (MCD) or Johnson & Johnson (JNJ), so PCLN actually looks a lot better on a comparable basis when it comes to earnings and sales. The top of the handle is around 728 or so, thus I would look for any pullback that might be actionable, should it occur on the basis of the all-too famous Barron’s wrong-way “pan.” Keep in mind, however, that PCLN announces earnings on Tuesday, so to some extent one is playing “earnings roulette” here.




As I discussed last weekend, LinkedIn (LNKD) was finding support along its 10-week moving average, but volume has not been forthcoming on any bounce off of this key moving average. On the daily chart below, however, LNKD has not come close to its 50-day moving average, now down at the 164-165 price area. LNKD did manage to clear to a new all-time high on Friday, but this came on a mere 6% increase in volume, not the sort of action one would necessarily want to buy into. Had the stock exceeded the down-volume of seven days ago on the chart, the breakout could at least have been interpreted as a pocket pivot breakout and thus would be buyable. I had purchased a small position in the stock on Thursday based on the strong volume levels seen early in the day, but by the close that had fallen short of even average daily volume, and when the stock came in on Friday, I tossed it given that a 10% position has a relatively negligible effect on my portfolio value. Had LNKD shown at least a pocket pivot volume signature by the close on Friday, I would have readily bought back in as I believe they will announce strong earnings in May when they next report.




In my report of this past Wednesday, April 10th, I discussed the base breakout in Proto Labs (PRLB), which I show below on a daily chart. This led to another 6% of upside on Thursday as the stock moved to all-time highs before reversing and closing flat on the day on heavier volume than that seen on the prior day’s breakout. Given that the stock had moved from an intra-day low of around 44 two Friday’s ago and by this past Thursday was streaking above 55, a move of well over 20% in five days, the fact that sellers came in to unload stock was not surprising. PRLB is already a volatile stock to begin with, and so it is susceptible to such action, in my view. One also has to consider that the gap-up move in February that ran up to the 54 level also brings in some overhead selling as the stock revisited those highs on Thursday. The critical point here is that the stock held above the 49.68 breakout level and closed roughly midrange on Friday, which brings it right back into a buyable position. Keep in mind that


PRLB announces earnings in early May, when it is expected to announced earnings growth of 35% on a hard number of 31 cents a share.




Continuing with reviewing the names I discussed in my report of this past Wednesday, we can take a look at Stratasys (SSYS), shown on a daily chart, below. SSYS issued back-to-back pocket pivots on Tuesday and Wednesday of this past week, and after moving higher on Thursday it ran into some inevitable overhead resistance from the left side of the pattern and reversed to close slightly down. On Friday the stock tried to sell off further but held tight as volume declined to below average. One could see this as the stock trying to round out the right side of a new base or as a right shoulder within a head & shoulders topping formation. Which is it? The truth is that you don’t know, and one can only watch and see how the price/volume action continues to play out. Many times I’ve seen a stock form a “right shoulder” in what looks like an H&S pattern, only to round out the pattern and later break out from what turns out to be a cup-with-handle. My view is that if it can hold the 76 price level, then it has a chance to go higher. With newer group names Exone Company (XONE) (see April 10th report) and PRLB exhibiting strength, SSYS may have a chance.




In my Wednesday report of April 10th I also discussed the bottom-fish move on Workday (WDAY) as it found big volume support at the 50-day moving average following the 63-million-share IPO lock-up expiration of that day. We can see on the daily chart, below, that WDAY has been able to rally for three days in a row as it moves into resistance in the low 60’s. Volume has remained above average, which tells me that the stock is finding ready buyers in the face of a large share lock-up, and I believe this is constructive for the stock going forward. However, I would look for the stock to pull back to the 60 price level, maybe a little lower given its tendency to act in a volatile manner. The action has a little bit of a pocket pivot type of look to it, but is a little v-shaped, thus I would like to see a pullback to correct this as the stock moves into its earnings announcement on May 30th, which is still nearly seven weeks away. The stock has traded over 22 million shares since the lock-up expired on Wednesday, but may need a little more time to absorb the remainder of any stock that regular employees as well as officers exercising their stock options are looking to cash in on.




I was looking for Facebook (FB) to show more follow-through after Wednesday’s “bottom-fishing” pocket pivot move, but the stock floundered a bit as buying interest waned on Thursday. Friday’s pullback appeared more a function of buyers failing to step up, thus I’m not so sure FB can muster any upside thrust here going into earnings at the end of the month. FB’s new “Home” app has not received very favorable ratings from actual users, despite the fact that some analysts have talked it up, and this seems to be a factor in waning enthusiasm for the stock. FB is similar to SSYS in that it also looks to be trying to round out the right side of a potential new base while at the same time looking like it could be forming the right shoulder in an H&S formation. This is a little more evident in the weekly chart, which I don’t show here. When you compare this to a stock like SSYS, you can definitely see more volume thrust as it clears the 50-day moving average and moves higher, whereas FB shows tepid buying interest, thus I need to back off and see how this develops. I would have no problem buying this a little bit higher if I were to see some strength.




Wednesday’s breakout in Sodastream (SODA) was not accompanied by any significant volume, as we can see on the daily chart, below, but the stock came through with a 68% increase in volume over average as it cleared to new 52-week highs on Thursday. Obviously, like PRLB, SODA’s five-day move off the intra-day shakeout lows of two Fridays ago was getting a bit long in the tooth, so to speak, by Thursday, and it ran into some logical selling, likely from overhead in the left side of the base, as it stalled and closed mid-range. Friday saw the stock pull back a point on volume that was -42% below average, which is constructive, in my view. I could see the stock pulling back in to the 51-52 price level where I would be inclined to buy into such a pullback, should it occur. If selling volume dries up next week and the stock holds right around Friday’s close of 53.03, then it would become buyable on that basis with the idea that it should hold the 50.46 to 51 price area on any further pullback.




It’s been a while since I last discussed Krispy Kreme Doughnuts (KKD), shown below on a weekly chart. KKD first reared its doughy head back in early January when it first broke out on a pocket pivot gap-up from below the $10 price area, as I discussed in my report of January 2nd. Now we see the stock some 50% higher and forming its first real base since that January breakout. The current base is a five-week affair that has seen some tight closes along the 14.50 price level with three weeks in the base showing supporting action with last week’s action finding support just above the 10-week line. KKD actually missed earnings estimates by about 8% in early March, but the stock found support following that earnings announcement of 83% earnings growth on a 15.9% increase in sales. This has set up a four-quarter earnings and sales growth acceleration, which in my view makes the stock buyable within the base, using the 10-week line, currently at 13.99, or the 50-day line, currently at 13.91, as your downside selling guides. To me it looks like KKD is setting up for a breakout to the upside from here, provided the general market doesn’t get into any trouble.




The breakdown in the precious metals on Friday was accompanied by weakness in other commodities, like copper and crude oil. In particular, crude gapped down on Friday and looks poised to break down through the neckline of a huge head and shoulders type of formation that it has formed over the past five years, as is illustrated by the weekly chart of the U.S. Oil (USO) ETF, below.




Given that they have been so widely owned in recent years, some potential exists for the sell-off in precious metals to lead to a sell-off in stocks as margin calls begin to take their toll on investors’ precious metals positions. This may have been what led to Friday’s initial sell-off after the open, but stocks were able to recover and close better while gold and silver continued to slide lower after the stock market closed. Thus we see the force of QE lose out to panic selling in the metals caused by the perceived potential for forced selling by insolvent European sovereigns needing to dump gold holdings in order to forge together another temporary fix to their longer-term insolvency and structural economic impotency. As I wrote on Wednesday, despite some buyable situations cropping up in this current market environment which appears to lack broad participation by fundamentally strong names, progress may remain difficult.


In the meantime it is not clear to me that one would want to remain short this market pending any evidence of an actual top. With the major market indexes at new highs there is no evidence to support a change of trend at the present time, and in the case of a prior short-sale target like Nationstar  Mortgage Holdings (NSM), for example, pocket pivot type volume action on Thursday begins to put the balance of volume in favor of the upside. While this pocket pivot did occur coming up off the 10-day moving average, as we see on the daily chart, below, it is also below the 50-day line. However, it is possible that NSM is trying to build the lows of a new base with the potential to confound would-be short-sellers. You might also notice that I’m using HGS Investor software ( charts throughout this report, and one thing I’ve noticed is that a stock is generally a better short candidate when the “force index,” the red and blue bands at the top of the chart, is showing up red, and in this case NSM’s daily chart is showing both the 13-day and 2-day force indexes turning positive. For all we know, NSM could flash a pocket pivot buy point off the lows of this potential base by moving up through the 50-day line, and so I don’t really view this as an optimal short candidate at the current time – it could easily morph into a “bottom-fish” buy situation.




Also look at the weekly chart of Michael Kors Holdings (KORS), shown below. As the stock has come down to test the 40-week moving average, the weekly chart reveals supporting action in three of the past five weeks with volume picking up on those weeks while the stock closes mid-range or higher. KORS does not release earnings until June 11th, and it may be revving up to retake its 10-week/50-day moving average, which I think is something to watch for. Meanwhile, the weekly chart does not reveal any major flaws that would imply, in my view, further downside from here. Note also that luxury retailer Lululemon Athletica (LULU), not shown, has been able to retake its 50-day moving average over the past few days.




This is not your father’s bull market, to steal a line from the old Buick commercials, and as I indicated in my report of this past Wednesday, one may need to think just a hair outside the box to find situations that the crowd doesn’t see in what is otherwise a tricky market to play. But there are stocks that go streaking, such as we’ve seen in Regeneron Pharmaceuticals (REGN) after it flashed a pocket pivot coming up the right side of its base on March 28th, as I discussed in my report of March 31st, and it may be that one needs to kiss a few frogs before Prince Charming shows up. Stay tuned.


Gil Morales

CEO, Gil Morales & Company, LLC
Managing Director & Principal, MoKa Investors, LLC
Managing Director & Principal, Virtue of Selfish Investing, LLC

At the time of this writing, of the stocks mentioned in this report, Gil Morales, MoKa Investors, LLC, Virtue of Selfish Investing, LLC, and/or Gil Morales & Company, LLC held no positions, though positions are subject to change at any time and without notice.

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