The Gilmo Report

January 29, 2014

January 29, 2014

Things have gotten quite interesting as the major market indexes continued their sell-off on Monday before staging a rebound on Tuesday followed by a break for the lows today, as the daily chart of the NASDAQ Composite Index shows below. Emerging market currency woes in Turkey and other small countries like South Africa led to an overnight reversal and gap-down this morning in the S&P and NASDAQ 100 futures. This then led to a raft of selling this morning that carried right on through the Fed policy announcement and into the close. The NASDAQ has pushed below the 50-day and today made a lower low since the top six days ago on the chart.

 

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The S&P 500 Index, shown below on a daily chart, is the weaker of the two indexes as it broke down through its 50-day moving average last Friday and has continued down towards support in the 1770 area. It held this area today despite making a lower closing low since breaking down off the peak. As I wrote over the weekend, this break off the peak smells a little different from the others we saw in 2013, and of course the scripted outcome here is that all will be well and the market will soon find its feet and move higher. If that is what the crowd expects, then the crowd is certainly set up to be fooled here. While I might be open to buying leading stocks on some deep pullbacks here, it still looks to be a dicey proposition at best.

 

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The discontent that plagues emerging market currencies has led to a continued safe-haven move into precious metals, as the daily chart of the SPDR Gold Shares (GLD), below, show. Gold has been buyable on pullbacks as it has been able to recover to a higher high each time, and today’s move took the yellow metal back up off the 10-day moving average and up through the 65-day exponential moving average, the black moving average on the chart. The only issue I might have with being long the GLD or precious metals ETFs in general is that if the general market starts to get into more serious trouble, a wholesale sell-off that takes the major indexes lower may drag everything down with it as margin calls are generated and investors rush to liquefy. For now, I would simply continue to use the 119 price level on the GLD as your stop on the downside.

 

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Over the weekend I discussed Netflix (NFLX) as the stock to focus on the long side in the event of a market turn with “the idea that it will continue up through the $400 price level.” That’s exactly what happened yesterday as the market staged a reflex bounce off the lows, sending NFLX up through the $400 price level and bringing Jesse Livermore’s “century mark rule” into play. We’ve seen other stocks like Amazon.com (AMZN) have trouble getting through their own century mark levels, and in the case of AMZN this was, coincidentally, also the $400 price mark. NFLX stalled out today at yesterday’s highs in the 407 price area, again mimicking AMZN which stalled out at 408 last week. NFLX made a nice two-day trade with the market rallying yesterday, but it’s now a general market question in terms of whether one wants to try and stay long the stock. With NFLX holding just above the $400 level, one could use that with another 1-2% on the downside as a trailing stop on NFLX for now. Of course, if the general market starts to blow further to the downside, then all bets on NFLX are off!

 

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Among my short-sale targets, Cree (CREE) is back within shortable range after bouncing off the 50-day moving average on Monday, as we can see on its daily chart, below. The bounce is entirely logical, and if one had shorted the stock Monday morning right around the opening, one could have covered on the move down to the 50-day line, looking to re-short on the bounce. Today’s low-volume bounce got as high as the 63.10 price level and the 10-day moving average before reversing and closing just below the 200-day moving average. This remains in a very shortable position here, using today’s high at the 10-day moving average as a quick upside stop, although one could give it 2-3% more room on the upside depending on one’s taste for risk.

 

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LinkedIn (LNKD) worked out well after my discussion of the stock as a short-sale target in this past weekend’s report, breaking down through its 200-day moving average on heavy selling volume Monday before staging a feeble, low-volume “bump” back up into the 200-day moving average yesterday and today where it was shortable again. After hours Facebook (FB) is rallying following its earnings announcement, and LNKD is trading back up over 208. Prior to the close I Tweeted to members that if one was short LNKD going into the FB number one might want to hedge by banking full or partial profits on the position. Now I would watch to see how the stock acts on this sympathy bounce with FB tomorrow. Another push back up to the 200-day line, currently at 212.38 might offer another entry point on the short side, depending on what the general market is up to at the time. If the stock doesn’t stop you out at the 200-day line, then the downside target on LNKD remains the 198.60 low from early January.

 

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Our third short-sale target, Michael Kors Holdings (KORS), pushed past the 50-day moving average on Monday but stalled out yesterday just above the 83 price level, as we see on its daily chart, below. So far KORS isn’t doing anything unexpected for a possible late-stage failed-base (LSFB) situation. Over the weekend I surmised that one could short the stock at the 50-day line using the 81.10 high Friday as a quick stop, but if one had gone in and out of a short position at that point yesterday’s stalling action was a sign that the trade could have been re-entered. Often times, LSFB set-ups after a prior breakdown through the 50-day moving average can rally 3-5% past the 50-day line on the upside before rolling over, and the key is watching for the rally to give way as it did yesterday.

As we can see on the chart, KORS pushed up above the 83 price level but closed down at the lows of its daily range, offering a clue that it was running into supply at that point. Today the stock gave way and broke down hard back through the 50-day line with selling volume coming in above average. Thus the short point was either yesterday or this morning when the stock just started to gap down on the open. This is the type of situation where you have to be alert to the rally failure at the 50-day line as KORS is now slightly extended to the downside, and the only way I would consider shorting it at this point would be into a weak rally back up into the 50-day line.

 

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Last but not least among our short-sale target stocks is Lumber Liquidators (LL) which has moved lower every day this week, as we can see on the daily chart, below. LL paused briefly at the 200-day moving average Monday morning before heading lower over the next three trading sessions. At this point I’m using the 85.58 low from early December as my first downside price target. That might bring on a quick undercut & rally situation whereupon one could either decide to cover and take a profit or wait to see whether the stock can hold the low. As I discussed over the weekend, LL is a classic head and shoulders short-sale set-up, and so this brings into play the possibility that it will eventually continue to move through the 85.58 low and down towards the neckline of the H&S formation, which is currently somewhere down just below the 80 price level.

 

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Another thing to keep in mind with our short-sale targets is that we are in the midst of “earnings roulette” seasons, so note that KORS is expected to announce earnings on February 4th, next Tuesday, LNKD is expected to announce earnings on February 6th, next Thursday, and LL is expected to announce on February 19th. Thus if one is short any of these names as earnings approach, one has to decide whether they want to be short-sale earnings roulette when the time comes. Meanwhile, CREE has already announced earnings, which makes it less complicated to ponder as a short-sale target.

While a market recovery and subsequent move to new highs has been the recipe for every pullback over the past year, it is not clear to me at this time that the market is a shoe-in to repeat this type of action. The critical factor for me right now is the fact that all of the stocks on my buy watch list are showing zero traction as they pull back down towards prior buy points or break down altogether. The other thing to consider is that QE is at a possible inflection point as the Fed moves ahead with their January taper, and this is quite different from the previous tone of quantitative easing coming out of the Fed.

So that is what is different this time around, and that is enough to make me cautious and preferential to the short side of this market until further notice. As well, and as I discussed over the weekend, the selling has had a particularly aggressive feel to it. Meanwhile, while I want to keep an open mind regarding the possibility of buying into a market turn, I will need to see something more concrete in the way of buyable set-ups, of which there is a severe dearth at the current time. Conversely, if the market continues to weaken, and as more and more leading stocks break down, the potential for more short-sale set-ups beginning to emerge increases. Stay tuned.

 

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 CREE, though positions are subject to change at any time and without notice.

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