The Gilmo Report

February 11, 2018

February 10, 2018

I don’t think I need to point out what everyone already knows, which is that this past week was one of wild and wooly volatility with plenty of mystery and intrigue on the side. The implosion of the short-VIX funds to more threats of a government shutdown to the wild 1,000 Dow point intraday swings made for one of the more interesting weeks we’ve seen in a while. We might even consider that the first full week of February provided something of a respite from the boring, slow-and-steady market uptrend we saw in January.

On Thursday evening I blogged about a possible short-term bottoming scenario that might unfold on Friday, although admittedly I was looking for a gap-down move at the open to get there. After another 1,000-point dive in the Dow on Thursday, that seemed likely. However, the market opened to the upside on Friday and looked like it might gather some steam before the bottom dropped out suddenly around mid-morning.

At that point, the scenario I outlined on Thursday evening began to play out, and it was triggered by the S&P 500 Index as it undercut its October lows and its 200-dma on an intraday basis. The breach of the 200-dma is often seen as a very bearish development. But in my view, it merely set up the potential for a big undercut & rally move back up through the October lows and the 200-dma. That’s precisely what we saw as the indexes turned and rallied to close up strongly on the day on higher volume.

 

GR021118-$SPX

 

The NASDAQ Composite Index didn’t quite make it down to its 200-dma, but it did undercut its November lows. Since this coincided with the S&P 500 undercutting its October lows and the 200-dma, it provided confirmation of a potential U&R market low. And so, it was. At that point, things were getting wildly oversold, and if you were short stocks you had to have one eye on the indexes as they approached their October and November lows, as I discussed in Thursday evening’s blog post.

 

GR021118-$COMPQ

 

From peak to trough, the NASDAQ has corrected a total of -11.66%, while the S&P 500 has corrected -11.84%. That qualifies as an intermediate correction, albeit a steep one, as is evident from the index charts above. About three months’ worth of market gains evaporated mostly within the span of six trading days. Does Friday’s undercut & rally move that included the S&P 500 bouncing off the 200-dma mark a final low? That’s tough to say, but I wouldn’t be surprised to see another move back up to the 50-dma from here by the major market indexes.

At that point we’ll have a chance to see whether the market is truly finding its feet, but I tend to think that we’re in for an extended period of volatility.

During a big undercut & rally move in the indexes like we saw on Friday, key confirmation can often be found in the action of busted leaders that are doing the exact same thing. If you go through your current long watch list, or at least the one you had before the end of January, you will see many undercut & rally types of moves.

An example would be Facebook (FB). This is obviously a busted leader, and by the time it gets down below its 200-dma it is also undercutting key lows in its prior base. If I’m short the stock, this is where I start looking to cover my short position. Using undercuts of prior lows as cover points on the short side is a key principle of short-selling as I discussed in the book, Short-Selling with the O’Neil Disciples: Turn to the Dark Side of Trading (John Wiley & Sons, 2014).

Here we can see that it undercut two prior lows in its pattern and the 200-dma on Friday. The breach of those lows and the 200-dma looks “bearish’ according to standard technical analysis since they would be considered major support. But the reality is that this merely serves to fake out the crowd and the U&R is triggered at that point as the stock comes back up through either the moving average or the prior lows. That produced a tradeable rally, and often I will find myself covering shorts on these undercuts and then going long for a quick swing-trade as they come up through the low.

On Wednesday, I discussed the stock as a short at the 50-dma in my report, and the stock had a nice break down to the 200-dma. In this market, that may be all you get on the short side for now, as I would look for another rally into the 50-dma as the only next possible short-sale entry opportunity from here.

 

GR021118-FB

 

As FB goes into technical decline, two other big social-media names have gone into technical ascendancy, moving counter to the general market breakdown. The first is Twitter (TWTR), which I discussed in a blog post the week before last as it was breaking out of a base in late January. It was, however, tough to do anything with the stock ahead of Thursday morning’s earnings report.

However, after reporting a 19-cent profit, its first ever, the stock posted a big-volume buyable gap-up (BGU) move at the open. Unfortunately, this occurred on a day when the market reversed hard and the Dow dove more than 1,000 points. That helped bring the stock straight down all day before it posted a final intraday low at 29.71 after opening above the 34 price level.

On Friday, TWTR just barely undercut that low and bottomed out at 29.68 before rallying back to the upside. After spinning around a couple of times to the upside and then back to the downside, it rallied straight into the close to end the day near its intraday peak on above-average volume. I like this near those BGU intraday lows at 29.71, and that approach worked on Friday. Any pullbacks closer to 29.71 would bring it into a lower-risk entry position.

 

GR021118-TWTR

 

The other well-known social-media concern that may be on the up and up as FB is on the down and down, Snap (SNAP), has suddenly risen from the dead following what was viewed as a favorable earnings report Tuesday after the close. The stock has had a lot of shorts in it, and they all blasted out of the stock on Wednesday, helping to drive a big-volume buyable gap-up (BGU) move. The question here is whether SNAP is truly on the ascendancy as a social-media force or whether Wednesday’s move was just a big short-covering rally.

The key, as I see it, is to be found in the ensuing technical action. If it can consolidate the prior BGU move in constructive fashion then it may be able to set up and move higher from here. Note that over the past two days the stock has come in a fair bit off the peak, but volume has been declining. If this can settle in somewhere around the 18 price level as volume continues to decline, then it may very well be buyable.

 

GR021118-SNAP

 

The bottom line in this market is that for the most part you’re looking at nothing but a bunch of busted chart patterns. Yes, we saw some undercut & rally moves on Friday, as well as bounces off support in a few of the better names that are still holding up. But the market has the distinct look of a massive train wreck, and we all know what those look like since it seems that we’re being treated to a real-life train wreck on the news once or twice a month these days.

But I digress. Aside from TWTR and SNAP, I’m focusing on the better-looking patterns in this market. Those would be the handful of leaders that are still holding above prior breakout points and/or their 20-demas. Netflix (NFLX) is one example, although it dipped below its 20-dema on Friday before closing just a hair below it. In the process it undercut its prior BGU low of mid-January as well as Tuesday’s low and then rallied back above both lows.

What I see here is a stock that is trying to hold up as it goes through a bit of a correction after a strong move throughout the month of January. This may need more time to set up again, which would likely entail the formation of some tighter price action with narrower price ranges, but it bears keeping on your long watch list for now. Not that it can’t go lower, since I tend to think it will if the general market correction continues. But so far, the selling hasn’t been heavy until Friday when it found support off the lows. Translation: NFLX isn’t busted just yet.

 

GR021118-NFLX

 

Amazon.com (AMZN) is also trying to find support above a prior breakout point as it bounced off its 50-dma on Friday. For now, this one stays on my long watch list, but it needs to start tightening up and set up again. The breach of the 20-dema on Friday was a sell signal, in my view, and unloading the stock there would have put one in position to buy back at the 50-dma as the indexes were pulling their U&R move.

All the talking heads and pundits on financial cable TV never fail to tell us that a big market break is a buying opportunity. They, of course, never tell anyone to sell anything, so I always wonder how one can take advantage of buying opportunities if one is always fully loaded up on stock. Dumping stocks when they breach near-term support, those “tight selling guides” I like to talk about all the time, puts cash in your pocket to take advantage of so-called buying opportunities.

These opportunities may only result in quick, long swing-trades as stocks bounce hard off support, but you’re not going to participate in any of them if you don’t have cash on hand. Therefore, selling AMZN at the 20-dema was one way to raise cash that would allow one to come back in at the 50-dma. It’s much better to be in the relaxed position of holding cash as you watch a favored stock dive deep into support rather than being long the thing as it plummets.

A retest of the 50-dma could be in the cards for AMZN if the general market correction continues, so that can be watched to see how it plays out and whether it offers any further entry opportunities. This, of course, assumes that it will continue to hold support at or near the 50-dma.

 

GR021118-AMZN

 

Nvidia (NVDA) failed on a prior breakout attempt five trading days ago on the chart, below, but it has since recovered. This is another example of using the 20-dema as a selling guide, which would have gotten you out of the stock above the prior base breakout point. At that point, one is then freed up to think clearly about how, where and whether one can re-enter the stock.

Since February started, NVDA’s smooth trend has turned into a volatile pattern with wide price ranges, something that is not necessarily constructive. The company reported strong earnings while raising guidance on Thursday after the close. It was all over the place on Friday after a gap-up open before settling down to post a pocket pivot at its 20-dema.

Because of the strong fundamentals, I would tend to think this might have legs if the general market has put in a final low, or at least is able to rally further to the upside. I see two ways to approach this. The first would be to look for it to continue higher IF we see the general market continue to rebound, using the 20-dema as a tight stop.

The other is to simply lay back and see if it doesn’t tighten up along the 10-dma or 20-dema. That might be the safer method, but it would be dependent on also seeing the general market settle down, set-up, and then move back up toward its prior highs after posting what has so far been an intermediate correction.

 

GR021118-NVDA

 

Weight Watchers (WTW) is also acting well here as it pulls back into its 10-dma after a massive-volume pocket pivot to new highs on Wednesday. The pullback to the 10-dma obviously was pushed along by the sharp market decline on Thursday. The 10-dma is, however, down at 65.48 while the stock closed at 69.17 on Friday.

The trick here would have been to see it at the 10-dma as the market was turning off the lows on Friday and going long closer to the line. If it settles back down toward the 10-dma then it might present a lower-risk entry, assuming the general market has found a low and will set up again.

 

GR021118-WTW

 

Tesla (TSLA) was a short on Thursday morning per my comments in the Wednesday report where I told members that I would look for any move below the 20-dema 340.88 as a trigger for a short-sale entry at that time. The stock dropped below the line on Thursday and then just plummeted lower from there. It then continued lower on Friday before undercutting its prior November and December lows, triggering an undercut & rally move from there.

That was a nice two-day break that could have easily been played on the short side. From here, weak rallies up into the 50-dma at 330.38 would be your next references for possible short-sale entries.

 

GR021118-TSLA

 

Square (SQ) was discussed in my Wednesday report as a short at the 20-dema, and on Thursday it opened just above the line before plummeting to the downside over the next two trading days. Things got quite oversold on Friday at the stock hit a low of 36.76 before rallying as the market turned, closing at 39.57. In the process it also undercut the prior 38.67 low in the pattern and rallied above it, as I’ve highlighted on the chart.

The rally off the lows on Friday only carried as high as the 50-dma, so this could be viewed as another short-sale entry spot, using the 50-dma as a guide for a tight upside stop.

 

GR021118-SQ

 

Alibaba (BABA) was also discussed as a short in my Wednesday report as it sat just below the 50-dma. That led to a sharp drop over the next two days before the stock undercut its prior December lows and rallied back up through them. Note that the stock has had a sharp drop off the peak above the $200 Century Mark so far in February, which looks quite brutal on the chart. From here, weak rallies up into the 50-dma at 182.28 would be your next references for lower-risk short-sale entries.

 

GR021118-BABA

 

For newer members: Please note that when I use the term “20-day moving average,” “20-day line,” or “20-dema” I am referring to the 20-day exponential moving average. I use four primary moving averages on my daily charts: a 10-day simple (the magenta line), 20-day exponential (the green line), 50-day simple (the blue line) and 200-day simple moving average (the red line). On rare occasions, I will also employ a 65-day exponential moving average (thin black line). In all cases I will mostly use the shorthand version of “10-dma,” “50-dma,” etc.

I wrote on Wednesday that I was not comfortable throwing out a broad number of ideas, long or short, given the extremely dangerous volatility we were seeing in the market. A handful of short ideas worked well, and when working the short side in a fast market I find it is best to focus on just 3-4 names at most. When things are moving fast, trying to watch too much can be fatal, and it is generally enough to focus on a small number of good candidates. That would have worked well for nimble short-sellers over the past two days.

On the long side, the best trades on Friday were those that mimicked the undercut & rally movement of the general market indexes as they posted undercut & rally moves and bounced hard off their intraday lows. Aside from a small handful of leaders, like those discussed in this report, almost every chart pattern I see as I go through my lists and screens is utterly busted.

In most cases, I found that names I was short turned into great long trades once the general market had turned off the intraday lows. FB and SQ, are reasonable examples of this. But I do not treat these as anything but quick, swing trades.

Very few pundits are speaking of a possible bear market starting here, but I would certainly consider that a strong possibility. The technical damage over the past few days strikes me as significantly worse than anything we’ve seen in a long time. The chart of the NYSE Bullish Percent Index, below, illustrates the unusual severity of this recent break off the peak. Generally, the sharpest breaks in this index occur near lows, whereas this is occurring right off the highs.

 

GR021118-$BPNYA

 

Right now, the market appears to be in what is at least an oversold rally, with the 50-dmas representing overhead resistance for all the major market indexes. Moves back to the 50-dma could be associated with some swing-trades on the long side in stocks showing similar undercut & rally moves on Friday. But this remains a fast, volatile, and hence dangerous market for anyone who ventures to play.

At times it has become so fast that I’ve noticed disparities between the prices being reported on various quote systems that I use. When that happens, you’re not even sure which market you’re in at any given time – the one on this quote screen, or the one on that quote screen! For this reason, among others, this remains a market where one should either tread lightly or be prepared to remain extremely nimble, while continuing to maintain high levels of cash.

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 position in TWTR, 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.