The Gilmo Report

February 10, 2016

February 10, 2016

The NASDAQ Composite Index finally undercut its August 24th intraday low on Monday following last Friday’s bear flag breakout to the downside. The narrower large-cap indexes, the Dow Jones Industrials and the NASDAQ 100 Indexes, both not shown, are the only major market indexes that have not undercut their August 24th lows. My guess is that they eventually will at some point.

In any case, the NASDAQ’s undercut of its August 24th low was enough to trigger a retest and rally off the lows on Tuesday, followed by a big gap-up open this morning. That gap-up mostly dissipated by the close, however, as the NASDAQ reversed to close near its intraday lows on higher volume. Note that the NASDAQ also filled the gap from Monday’s gap-down move before reversing into the close. On its face, this looks quite bearish.

 

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The S&P 500 Index, which had already undercut its August 24th low in mid-January, not quite four weeks ago, retested the mid-January low on Monday and held. It still remains below the August 24th lows, however. From my perspective, Monday’s action can be viewed as a trendline breakout to the downside from the short bear flag it has formed since the mid-January low. The August and September lows also continue to present overhead resistance for the S&P 500. Today it reversed at those levels as buying interest waned and the index closed near its intraday lows on lighter volume.

 

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With so many short-sale target stocks deep down in their patterns, only a handful have been actionable short-sales over the past several days as the indexes have plumbed to lower lows. Regardless, there have been some decent set-ups that have worked fairly well. Let’s look at a few of them and see where they currently stand.

Facebook (FB) was fairly compliant on the downside after failing to hold the 110 level which is roughly around the top of its prior base. As I blogged last Thursday, it was possible to take a short position using the 110 level as a guide for an upside stop. The gap-down on Monday through the 50-day line at around 101-102 confirmed FB as a late-stage failed-base short-sale set-up. On Monday and Tuesday FB filled the gap from January 28th, undercutting the lows of that “rising window.”

As I blogged this morning, the stock was shortable on the rally back up into the 50-day moving average at 103.21. Ultimately, FB ended up “pinging” right off of the 50-day line and reversing to close near its intraday lows on above-average volume. The 10-week moving average at 102.34 makes a very tight trailing stop for any short position taken today at the 50-day line. Otherwise, one can simply use the 50-day line or the 20-day line at 103.47 as an absolute stop.

 

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McDonald’s (MCD) is another late-stage failed base short-sale set-up that confirmed last Friday when the stock blew through the 50-day moving average on heavy selling volume. The stock then undercut the 113 mid-January by 29 cents, setting up a logical undercut & rally move back up towards the 50-day line today.

As I blogged this morning, the stock was shortable around the 50-day line. While it did not break down and reverse in a big way, it did close in the lower half of its daily trading range and below the 50-day line. I continue to view this as a short on any rallies that carry as far as the 20-day line, with the idea of using the 200-day line at 104.73 as your downside profit target.

Keep in mind that in most LSFB type set-ups the 50-day and 20-day moving averages are critical reference points at the outset. As I’ve discussed before, the initial breach of a higher 20-day line is often your first clue of a potential failure. This is then confirmed by a break through the 50-day moving average that generally carries down to a logical support level before we see a bounce back up to the 50-day or 20-day lines.

 

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Panera Bread (PNRA) was certainly a nice short if one hit last Thursday’s breakout attempt on the short side, something I tweeted on the @gilmoreport Twitter page at the time. The stock then dutifully reversed and busted both its 20-day and 50-day moving averages before finally closing just below the 200-day line yesterday.

With earnings coming out yesterday after the close, this was a nice profit to bank before the report. Following the earnings release, PNRA gapped up as high as 194.95 in after-hours trade yesterday before settling in around 190-191 when the evening session closed.  This morning the stock continued moving higher, pushing right up to the highs of the prior breakout attempt from last week. By the close, however, PNRA was unable to hold the re-breakout attempt through the 196-197 price area and closed well off the peak on very heavy volume.

It might be relevant to note that the $200 Century Mark level looms just overhead. This puts the stock in potential failure territory if it continues to find resistance at last week’s breakout level and just below the 200 price level. In this case, the 200 level is about 3% above today’s close at 193.86 and therefore becomes a realistic reference point for maximum upside stop.

 

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Avago Broadcom (AVGO) broke down nicely at the 136 level last Friday as it plummeted through both its 50-day and 200-day moving averages. I blogged about the stock as a short-sale target at the 50-day line on Thursday morning, and it has done quite well on the short side since then.

Here we can see that the stock is holding along the prior January lows, and has actually undercut the January 27th low at 120.09. The next low would be the January 20th low at 117.17. One can choose to bank a profit here based on the undercut, or wait for a breach of the 117.17 low while using the 200-day line around 129 as a guide for a trailing stop. Volume is drying up here along these January lows. In my view, this is probably more an indication that buyer’s aren’t showing up in force after sellers pummeled the stock over the prior three days.

If one had shorted the stock near the 136 level and around the 50-day line then that is a reasonable approach if one wants to try and play out a more substantial downside move. Otherwise, rallies up into the 200-day line at 129.31 would be your next optimal short-sale entry points. However, the stock so far shows no inclination to rally so far this week.

 

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One had to be persistent with Walmart (WMT) as it kept bumping up into the 200-day moving average over the past several days. But it finally gave it up on Tuesday and broke down towards its 20-day moving average. This then led to a bounce back up towards the 200-day line today, but that did not hold as the stock closed down slightly on lighter volume. I continue to view this as a short on any rallies up into or near the 200-day line, using that as your guide for a tight upside stop.

 

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With gold rallying on a big fear bid as global markets have been tanking throughout January and February, we’ve seen the precious metals mining stocks rallying as well. Some of these rallies have been quite sharp. However, my thinking with respect to precious metals and their associated mining stocks is that an initial fear bid and upside move in both gold and silver is not unusual during a period of global market turmoil.

But as money is allocated into the safe haven of precious metals, it is likely more of a temporary allocation rather than the start of a major upside trend. Generally, when global markets experience a liquidity crisis, as I believe they are now and likely have been since the big market break back in August of last year, eventually all asset classes get sold off.

Therefore, on Monday I started to look at some of the mining stocks as potential shorts. As I blogged on Monday, I decided to pick on Agnico Eagle Mines (AEM) based on its tepid estimates and high P/E. The reality is one could pick on any extended mining stock since it is more a matter of keying on the price of gold itself. My view is that if the current liquidity crisis continues to weigh on the market, eventually gold will reverse, dragging the mining stocks down with it.

 

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As of the time that I am completing this report this afternoon, AEM has not announced earnings. It is scheduled to do so sometime after the close today, and we will see where the stock is tomorrow morning.

Nike (NKE) rallied back up towards its 200-day moving average today on above-average volume, but stalled as it fell short of the line. Notice the undercut & rally move following Monday’s undercut of the prior mid-January low. Once NKE was deep below its 200-day moving average in a very nice downside cascade that began last week at the 50-day moving average, that undercut was a reasonable cover point.

Now we can look at re-entering the stock here on any further rallies up into the 200-day line at 58.46. NKE closed less than 2% below the line today, which more or less brings it into shortable range.

 

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Starbucks (SBUX) looks similar to NKE, except for the fact that it reversed and closed near the lows of its intraday trading range after coming within 1% of its 200-day moving average. The stock closed at 55.14, about 3% below the 200-day line. In my book, this puts it just out of shortable range. Therefore and I would look for a rally back up closer to the 200-day line as a more optimal entry on the short side.

 

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Over the weekend I made the case for viewing First Solar (FSLR) as a possible Double-POD short-sale set-up. As of yet, while the stock is drifting below its 20-day moving average, it has not cleanly busted through its 50-day moving average. As Solar City (SCTY) was getting pummeled 29.3% to the downside today after missing on estimates yesterday after the close, all the solars came under pressure.

FSLR pushed down towards its 50-day moving average and held along the line on about even volume. I like this as a short here using the 20-day line at 65.44 or the 10-day line at 66.36 as a guide for a tight stop.

 

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I also discussed Sunpower (SPWR) as morphing into a short-sale target based on the fact that it has found resistance at its 50-day moving average last week. On Monday the stock broke below the rising support line it had been following up into the 50-day line throughout the second half of January and the first few trading days of February. This was good for more than a 10% downside break that was profitable for any short taken as the stock broke support on Monday.

 

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What is most ominous for this market, in my view, is the action of the banking stocks, specifically the big banks and brokers. Several, such as Bank America (BAC) and Citigroup (C), are selling at about half of their current book values. While we can argue over what exactly constitutes “book value,” I believe the numbers generally indicate that some of these stocks are selling for far less than their stated asset values.

All I know for sure is that the talking heads and the various value money managers that appear on financial cable TV seem to think BAC is a compellingly cheap stock based on the assessment of book value.

If I run a simple screen against the Diversified Bank stocks on HGS Investor Software, I find a list of banks where the following are trading at 0.541 of their book value: DB, BCS, SMFG, RBS, MTU, MFG, SAN, C, and BAC. Of the rest of the 17 stocks on the list, J.P. Morgan Chase (JPM) and HSBC Holdings (HSBC) are the only other banks that trade below book at 0.934 and 0.615, respectively.

Perhaps others who are more knowledgeable than I consider these to be cheap stocks on a Price-to-Book basis. However, to me at least, it just smells of bad assets. But then again, what do I know? ;-p

In the meantime, BAC doesn’t seem like it wants to find a bottom. It has simply continued to trend throughout the New Year.

 

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Other banks like Wells Fargo (WFC) and Citigroup (C) are also making lower lows, while J.P. Morgan (JPM) looks to be on the verge of a potential bear flag breakout to the downside. You can look at all the banks and brokerages, including names like Goldman Sachs (GS), Morgan Stanley (MS), and even Charles Schwab (SCHW) or Interactive Brokers (IBKR), and the story is the same. They’ve all been in continuous downtrends since the New Year, and this is a very bearish development.

 

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If one can find spots to short any of these names then my guess is that they will eventually be productive in terms of generating short-sale profits. However, the primary reason I bring this up is because much of this action in banks and brokerages smells a lot like what we saw leading up to 2008.

Below are some notes regarding some of our short-sale targets and my preferred nearest actionable short-sale point for each:

Alphabet (GOOGL) – 20-day moving average at 712.27.

Amazon.com (AMZN) – 200-day moving average at 537.94.

Apple (AAPL) – the 20-day moving average at 97.13. Stock hasn’t been able to rally much over the past couple of days as it moves tight sideways in a bear flag.

Blackrock (BLK) – a money management firm that has exposure to oil debt. Use the 20-day moving average at 305.09 as an optimal short-sale point. Otherwise, with the stock closing at 298.56, within 2% of the line, one can short here and use the 20-day line as your guide for an upside stop.

Celgene (CELG) – the 50-day moving average at 108.78.

Gilead Sciences (GILD) – right here under the 20-day moving average at 88.96, using that as your guide for a tight upside stop.

Linear Technology (LLTC) – the 20-day moving average at 41.25.

Microsoft (MSFT) – possibly a short here at the 50 level, using that as your guide for a very tight upside stop. Otherwise, the 20-day moving average at 51.73.

Netflix (NFLX) – right here at the 10-day line using that or today’s intraday high at 92.91 as your guides for an upside stop. Otherwise, I prefer the 20-day line at 95.16.

Tableau Software (DATA) – the intraday high of last Friday’s shortable gap-down move at 44.05.

I am keeping a close eye on other names on my short-sale target list, but these are the ones that I consider to be closest to an actionable point. That, however, remains very fluid during the trading day, and members should stay tuned to my live blog as I see actionable situations develop in real-time. In the meantime, there are a nice handful of names in short-sale positions that I’ve discussed in this report, and this should be sufficient should we see the market break to lower lows.

What strikes me as most ominous is the situation with financials, and a good deal of this stems from the falling price of oil. Many oil companies issued a great deal of debt during the oil boom when prices were closer to and/or above $100 a barrel. And it was the financial institutions that lent the money. This is really the crux of the issue when it comes to falling oil prices.

While many wonder why falling oil prices aren’t viewed as a positive for the consumer, they fail to understand that falling oil prices put oil companies in the position of losing money and not being able to service their existing mountain of debt. Thus, the financial institutions with exposure to oil industry debt, which are many judging from the number of financial stocks that have been in steady deadline throughout the New Year, represent the vanguard of a brewing liquidity crisis.

It is this liquidity crisis that has likely been behind the waves of forced selling we’ve seen so far in 2016. It was likely also behind the rampant selling that hit the market back in August and September of last year. And all the while many pundits and commentators discuss the current market situation in typical business-as-usual terms, trying to spin it all positive by noting that “this is where investors need to start looking at the long-term opportunities.”

I’m sorry, but outside of perhaps trying to catch a bounce or two on the long side of some short-sale target that has been beaten and pounded into a thin, slippery paste, I don’t see much I would consider an opportunity whether long-term or short-term. This market has serious issues, and until further evidence shows otherwise, the short side remains in focus, end of story.

 

Gil Morales

CEO and Principal, Gil Morales & Company, LLC
Managing Director and Principal, MoKa Investors, LLC
Managing Director and 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 a positions in FB, FSLR, MCD, and PNRA, though positions are subject to change at any time and without notice.

Gil Morales & Company, LLC (“GMC”), 8033 Sunset Boulevard, Suite 830, Los Angeles, California, 90046. GMC is a Registered Investment Adviser. This information is issued solely for informational purposes and does not constitute an offer to sell or a solicitation of an offer to buy securities. Information contained herein is based on sources which we believe to be reliable but is not guaranteed by us as being accurate and does not purport to be a complete statement or summary of available data. Past performance is not a guarantee, nor is it necessarily indicative, of future results. Opinions expressed herein are statements of our judgment as of the publication date and are subject to change without notice. Entities including but not limited to GMC, its members, officers, directors, employees, customers, agents, and affiliates may have a position, long or short, in the securities referred to herein, and/or other related securities, and may increase or decrease such position or take a contra position. Additional information is available upon written request. This publication is for clients of Gil Morales & Company, LLC. Reproduction without written permission is strictly prohibited and will be prosecuted to the full extent of the law. ©2008-2017 Gil Morales & Company, LLC. All rights reserved.