The Gilmo Report

August 3, 2011

August 3, 2011

Over the weekend the major market indexes were all in a logical position from which to attempt a rally, as the crowd “knew” they would once a debt ceiling deal was in place. On Monday morning, after a deal had allegedly been reached, the futures conducted themselves dutifully, rallying furiously in response to the news. Unfortunately, the mostly futures-induced rally lasted all of about five seconds as the market began reversing right at the opening bell and within about a half-hour was decisively in the red. And by the end of the day the NASDAQ had joined the other major market indexes that were already below their 50-day moving averages. Yesterday, the indexes all decisively broke down through their 200-day moving averages, as the daily chart of the NASDAQ Composite Index, shown below, illustrates. Given that the Dow Jones Industrials Index was headed for its ninth straight day of decline, its worst performance since 1978, the need to sell got a bit obvious this morning as the Equity Put/Call Ratio and the Index Put/Call Ratio hit 1.69 and 1.38, respectively. Thus an ugly morning breakdown washed out the last of the sellers and set up a reaction rally that took the NASDAQ back into the green by the close on a huge-volume “bullish hammer” type of move. This would appear to be setting up a bounce here, but for the most part we are in “no-man’s land.”

NASDAQ Composite Index Gilmo Report Chart

Note the safe haven rush into Treasury bonds, as we can see in the daily chart of the Barclay’s 20-year-plus Treasury Bond ETF (TLT), shown below.

Barclay's 20-year-plus Treasury Bond ETF (TLT) Gilmo Report Chart

And this occurred as the Swiss Franc, represented by the Currencyshares Swiss Franc ETF (FXF), shown below on a daily chart, began going “parabolic.”

Currencyshares Swiss Franc ETF (FXF) Gilmo Report Chart

Are these indicators of extreme fear on this sharp sell-off over the past 8-9 days? Are we getting ready for a QE3 rally? If so, perhaps we will see money move out of Treasuries in the coming days while gold and silver continue to move higher. Remember that, in effect, by raising the debt ceiling and coming to an agreement that is suspect on its face as an agreement that simply cuts the rate of growth in government spending without implementing any real spending cuts, the government is enabling QE3 as it issues ever more debt as just another form of money-printing. Thus while raising the debt ceiling avoids “default,” it does not avoid “devalue.” And, as we know, continued debasement of the dollar will lead to higher precious metals prices, and could also lead to higher nominal stock prices. Thus we note that the SPDR Gold Trust ETF (GLD) is making all-time highs as the price of gold ramped up to $1,666-an-ounce. Gold is somewhat extended, so we continue to let it breathe a little bit in here. The 50-day moving average remains our selling guide as it continues to rise and is currently running through the 151.53 price level.

SPDR Gold Trust ETF (GLD) Gilmo Report Chart

The litmus test for QE of any kind, in my view, is the action of precious metals. We can define QE as fiat money-printing, of one sort or another, which is always positive for precious metals. Thus the action of the precious metals here confirms this, in addition to confirming its status as a safe haven “alternative currency” whenever the sovereign debt news gets scary. But pondering all of this is not necessary – just keep watching the price/volume action of the precious metals and forget the noise. In this regard, while the GLD ran into some selling today as it stalled out in an extended position, the iShares Silver Trust (SLV) pushed to a higher high on strong volume that was 83% above-average and was also a pocket pivot volume signature. With this kind of strength, I would expect the SLV to at least hold its 20-day moving average on any pullback, down around 38.14, and would hope it could do better than that by holding above the 10-day moving average at 39.20. The SLV could continue to move in this ascending range it’s been in since mid-July, but the lower boundary of this range is the 20-day moving average. For now, however, the uptrend in silver remains intact, and that is all we need to know currently.

iShares Silver Trust (SLV) Gilmo Report Chart

Over the weekend I discussed the pullback in First Majestic Silver (AG) down to its 20-day moving average. This occurred as selling volume dried up and appeared to be a reasonable spot to buy shares of the stock. As we see on the daily chart of AG, below, that proved to be the case as the silver miner has rallied with the precious metals so far this week. Volume expanded sharply yesterday and today, and the stock is now at the upper end of its range in this handle area that it is forming as it potentially completes a cup-with-hande base formation. I would not be looking to buy shares at this price level, preferring instead to wait for either a pocket pivot buy point within the handle, a clean breakout through the top of the handle, or another low-volume pullback that tucks back into the 22-23 price level and the 20-day moving average, roughly. AG continues to act well, but is expected to announce earnings on August 16th, so be prepared to play earnings roulette if you hold the stock into that date.

First Majestic Silver (AG) Gilmo Report Chart

At some point we might expect that continued dollar-debasement will also raise the nominal prices of stocks, but not until today has the market provided any evidence to support such a view. Today’s reversal rally on heavy volume was nice to see if you want to be bullish, but it is only one day, and we will have to see where it leads. For the most part individual stocks have been beaten down pretty good recently, and as an example just consider the five big-stock NASDAQ leaders, Apple (AAPL), Amazon.com (AMZN), Baidu (BIDU),
Intuitive Surgical (ISRG), and Priceline.com (PCLN), that I discussed in my report of this past weekend as stocks to keep an eye on in any rally that may develop. AMZN, ISRG, and BIDU were kicked around a bit more than I would have liked, and PCLN is just barely holding its 50-day moving average in the handle area of a possible cup-with-hande. But AAPL did show some strength today on a pocket pivot buy point move that closed up on the day. Despite closing at 392.57, just shy of the 10-day moving average at 393.56, the long lower “tail” and the positive close argue that this is a pocket pivot buy point. This makes sense to me, as any QE type of rally in the market would have to include AAPL, the de facto best-acting “big stock” leader in the market currently. Thus I would look for AAPL to clear the 10-day as confirmation tomorrow, using a violation of the 10-day line as your selling guide.

Apple (AAPL) Gilmo Report Chart

Like AAPL, #2 Social-Networking site LinkedIn Corp. (LNKD) flashed a reversal type of pocket pivot buy point as it just undercut its low of 10 trading days ago as we see in the daily chart below. That low of 10 days ago was 96.20, and LNKD shook out just below to an intra-day low of 96.13 this morning before reversing higher and closing at the peak of its trading range. LNKD finished the day at 105.65, well above its 10-day moving average at 102.17. The only issue here is that LNKD reports earnings tomorrow after the close, and so those who try and buy the stock on the basis of this pocket pivot buy point must be ready to play “earnings season roulette” tomorrow after the close! In this type of environment I’m not sure I’d be willing to take the risk going into earnings, but at the very least the action today is constructive. In my mind some sort of gap-up
breakout move might present a reasonable buy point once the earnings roulette wheel has finished spinning after-hours tomorrow. At best, given the risk going into tomorrows earnings report, I consider LNKD to be a stock to watch with the idea of entering under the correct conditions.

LinkedIn Corp. (LNKD) Gilmo Report Chart

Molycorp, Inc. (MCP), which flashed a pocket pivot buy point about two weeks ago, as we see on the daily chart, is still holding its 50-day moving average on this pullback. However, MCP closed at an even $60 a share today, just a couple of points above its recent pocket pivot buy point at the 50-day moving average, and I would not be comfortable playing “earnings roulette” next Thursday when the company announces earnings unless the stock is around 10% above my entry point at around 57-58. MCP was unable to hold up around the 65 price level on its previous rally, coming down very quickly and very hard on heavy selling volume yesterday. As well, even though the stock did not violate its 50-day moving average it also did not get any volume support as the stock rebounded off the 50-day line. I would have liked to have seen more volume on the bounce off of that key moving average. Like LNKD, one may have to wait until earnings come out before acting on MCP currently. Otherwise, spin the wheel at your own risk!

Molycorp, Inc. (MCP), Gilmo Report Chart

In my report of July 10th I pointed out the ascending base type of formation that the “grandaddy” of internet content stocks, Interactive Corp. (IACI) was forming at the time, and since then the stock has gapped out to new highs after announcing earnings six trading days ago, as we see on the daily chart below. A gap move out of an ascending base formation is fairly powerful in my book, and to see it in a stock that has long been considered a rather “dull” internet stock is always notable. As the market has been coming down over the past few days, I’ve been watching the few stronger-acting stocks to see where and how they get support, and of course AAPL and LNKD, further above, were examples of strong support today as the market reversed to the upside. IACI also flashed a reversal pocket pivot buy point off its 10-day moving average today, and this seems to present a low-risk entry point here as I would expect the stock to hold the lows of today and the 20-day moving average around the 38.76 price area.

Interactive Corp. (IACI) Gilmo Report Chart

On this steep market sell-off over the past couple of weeks I’ve found it hard to be aggressive on the short side, and with today’s big-volume reversal to the upside off the very bleak intra-day lows of this morning, the short side remains in limbo. The only thing that has been working here with any consistency has been the move in precious metals. This has occurred since the recent buy points on July 12th when the GLD broke out to new highs and the SLV flashed a pocket pivot buy point at its 50-day moving average. With the put/call ratios spiking this morning as everyone has been running for the hills and into the safety of Treasuries and the Swiss Franc, did we see at least a temporary “fear bottom?” Quite possibly, as it seems feasible to me that a QE type of rally could ensue on the basis of more fiat money-printing down the pike. This will remain positive for precious metals, which remain my primary long focus right now given that they have worked in relatively coherent fashion, but it could also turn stocks around, so I would be ready for anything here. I see a few playable ideas that I’ve included in this report, mostly in the form of pocket pivot reversals that occurred today in synchrony with the bottom and turn in the general market – at least for today, that is. If fear returns to the market, then I believe my precious metals positions will continue to serve me well, and if the “QE factor” kicks in then I see precious metals continuing to trend higher on the dollar debasement play. This, of course, might also bring stocks into play on the long side as well, so be prepared for this should it occur. We continue to live in a “QE World,” so expect the “logic” of such a world to cause the market to do what you least expect it to at all times! Stay tuned.

Gil Morales

CEO & Principal, Gil Morales & Company, LLC

Principal and Managing Director, MoKa Investors, LLC

At the time of this writing, of the stocks mentioned in this report, Gil Morales, MoKa Investors, LLC, and/or Gil Morales & Company, LLC held positions in AGQ, DGP, GLD, and SLV, though positions are subject to change at any time and without notice.

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