The Gilmo Report

June 18, 2017

June 18, 2017

Coming in Thursday morning, holding cash or short positions was the place to be as the indexes gapped down sharply at the open. Based on the gap-down open, the indexes looked set to split wide open. But in its typical Ugly Duckling style, the market belied expectations and turned off the lows for a less than disastrous outcome by the close.

The NASDAQ Composite Index found support at a point just above its 50-day line on Thursday, and held in a tight range on Friday as volume ballooned on what was a quadruple-witching options expiration day. Is this a bear flag, or a small double-bottom type of formation that also has the “L” look of a possible “LUie” set-up?

Given that Thursday’s retest of the prior week’s low came on light volume, I would say there is a good chance that we could see a rally from current levels. That remains to be seen, however, and any such rally could just move back up to the 10-day line where it might run into resistance again, as it did on Wednesday.

 

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The S&P 500 Index looks much more constructive as it holds in a two-week flag formation. Friday’s quadruple-witching options gives the pattern the look of big-volume support along the lows of the flag. Either way, while the NASDAQ has shown signs of weakness, the S&P 500 continues to hold up within its current price range with no signs of significant deterioration.

 

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The small-cap Russell 2000 Index, represented below on the daily chart of its close proxy, the iShares Russell 2000 ETF (IWM), has pulled into its 20-day exponential moving average where it found minor quadruple-witching support on higher volume Friday. The index is currently trying to find its feet after failing on a breakout to all-time highs earlier this past week.

 

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The SPDR Sector Select Financial ETF (XLF) is still indicative of where the stronger, more constructive action is in this current market environment. As it attempts to come up the right side of a base that extends back to late February, it is now pulling back toward its 10-day line. This is where I would look for the sector ETF to find support.

Most other big-stock financials, like J.P. Morgan (JPM), Bank America (BAC), Wells Fargo (WFC), and Goldman Sachs (GS), for example, have charts that look similar to the XLF. All of these are attempting to work up the right sides of potential new bases and currently pulling into support at their 50-day moving averages.

 

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Citigroup (C) remains the de facto leader among the big-stock financials given that it broke out of a three-month base last week on heavy buying interest. It has been said that rolling back Dodd-Frank could unleash $2 trillion of bank capital that has remained idle because of Dodd-Frank. This could provide a catalyst for further upside in the group.

My own experience tells me that it is a bit of a stretch to expect that one single group, namely the financials, can take over as a significant, and perhaps sole area of leadership in a continued market rally.

Meanwhile, big-stock financial leader C is pulling into its 10-day moving average on higher volume, which can be accounted for by Friday’s quadruple-witching options expiration. The stock also held in a very tight range, which looks constructive. Based on Friday’s 63.89 close, the stock is also within $1.31 of the prior 62.58 breakout point, thus is well within buyable range.

 

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Amazon.com (AMZN) announced on Friday that it is buying Whole Foods Market (WFM) as it dives deeper into the grocery business. No doubt the company will incorporate the WFM brand into its online grocery services. The instant reaction was a big gap-up and move up toward the $1,000 Millennium Mark on heavy volume.

But AMZN ran into resistance right near the 1,000 level, reaching an intraday high of 999.75 before turning tail and reversing to close near the lows of its intraday trading range and just below the 10-day moving average. Technically, one could have shorted the stock near the 1,000 level using Jesse Livermore’s Century Mark Rule in Reverse. The stock may still be shortable here using the Millennium Mark as a tight (just over 1%) stop.

To me it looks like the news puts AMZN firmly into what is essentially a low-margin business, but furthers the idea of AMZN as the ruler of all that is retail as it solidifies its position as an online retail juggernaut. Sometimes, however, it is precisely news like this that gets sold into, and that’s what happened on Friday. Obviously, the stock is not in any kind of lower-risk long entry position, so it’s a matter of seeing how the stock settles in over the next few days.

 

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Both AMZN and Tesla (TSLA) remain the strongest of the big-stock NASDAQ leaders, most of which have become a bit sloshy within their chart patterns. TSLA is anything but sloshy, however, as it pulls down toward its rising 10-day moving average with volume drying up to below average on Friday. For now, I see the 10-day line as near-term support for TSLA, with the lower 20-day exponential moving average at 350.42 as maximum downside support from here. Constructive pullbacks into either moving average could present lower-risk entry opportunities.

 

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Netflix (NFLX) presents a good example of a weak big-stock NASDAQ leader that has fallen out of favor. The stock broke below its 50-day moving average on Monday on heavy selling volume. It then spent the rest of the week tracking tight sideways and below the 50-day line.

This is either a short bear flag, making the stock shortable on rallies up into the 50-day line, or it is a “LUie” pattern in progress. So far all we see is an “L,” which is indistinguishable from a bear flag. To help confirm the “LUie” argument we would need to see the stock regain its 50-day moving average, at which point it would become buyable using the line as a tight downside stop.

 

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Facebook (FB) might be something of a “LUie” set-up with the added benefit of being able to find support at its 50-day moving average. In the “old days,” before the Age of the Ugly Duckling, this would be a shortable late-stage failed-breakout short-sale set-up using small rallies up into the resistance at its 10-day or 20-day moving averages as short entries.

The failed breakout is certainly ugly enough, and looks quite bearish, But FB has at least one thing working in its favor, which is that it sells for roughly 20 times next year’s earnings, so can’t be viewed as overvalued unless their business model is about to take a hit. So, for that reason I would remain open-minded about a “LUie” formation taking hold in FB as long as it continues to hold support at the 50-day line.

 

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I would note that both Alphabet (GOOGL) and Microsoft (MSFT), not shown here on charts, both look much like FB as they sit in positons just above the 50-day moving averages. The look of the patterns also mimics the NASDAQ Composite. As with FB, the question is whether support at the 50-day line holds and the stocks are able to push back up to their prior highs in “LUie” style.

Apple (AAPL) looks much weaker than all the previously discussed big-stock NASDAQ names as it posted a lower closing low on Friday on heavy quadruple-witching options expiration volume. Technically, the stock hasn’t in fact violated the 50-day moving average, as it would need to move below the low of this past Monday to do so.

As I wrote in my Wednesday report, for now AAPL looks like a short on any rallies up into the 50-day moving average. For now, it is clear the money is moving out of the stock, and as it sits here suspended in no-man’s land, there isn’t much to do with the stock at the present time.

 

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Nvidia (NVDA) is a big-stock NASDAQ leader that technically remains a leader since it continues to hold above its 10-day moving average. Even after getting hit with massive-volume selling off the peak two Fridays ago, the stock has managed to drift back to the upside as it tracks along its rising 10-day moving average.

Volume has declined during this upside drift, giving it the look of a wedging rally. As I wrote on Wednesday, this could become a short-sale target on a breach of the 10-day line based on the idea that the big-volume selling off the peak was the first wave in what may become a steady stream of selling to come. For now, the 10-day line serves as near-term support, with the 20-day exponential moving average at 144.42 as maximum downside support.

 

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Among my China Five names, only two remain in what I would consider to be viable positions within their chart patterns. The first is of course one of the biggest of the big-stock Chinese names, Alibaba (BABA). While it has moved below the 135.21 intraday low of its June 8th buyable gap-up (BGU) move, it is still holding at the 10-day moving average.

It is also less than 1% below the 135.21 BGU intraday low, which easily accounts for minimal and acceptable downside porosity. The fact that it is sitting at the 10-day line makes it an easy long entry here using the 10-day line as a tight selling guide in the event that BABA fails altogether.

 

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Weibo (WB) is the second China Five name that remains viable, in my view, given that it continues to hold above the 69.53 intraday low of its May 16th buyable gap-up (BGU) move after earnings. Note that on Thursday the stock undercut that low and rallied, creating an actionable U&R long set-up. On Friday WB pulled in to retest that low as volume dried up sharply to -51% below average. This puts the stock in a lower-risk entry position using the 69.53 price level as a tight selling guide.

 

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Unless I see something more constructive in terms of a proper set-up after settling down and stabilizing, I must for now stay away from JD.com (JD), Momo (MOMO), and Netease (NTES), all not shown here on charts. All three failed on recent breakout attempts since mid-May, with MOMO failing in May while JD and NTES failed in early June.

Of course, we can watch for Ugly Duckling set-ups near their current lows, but currently there are no signs of this contrarian species of fowl evident in the patterns. That can change, particularly if we see BABA and WB perk up as they remain in better positions within their chart patterns, so keep an open mind and be receptive to whatever real-time feedback appears

Finisar (FNSR) gapped up on Friday after putting out a poor earnings report on Thursday after the close. Initially, however, the stock fell in after-hours trade, but the ensuing conference call gave investors a change of heart. The stock then turned around and rallied above the 28 price level in the after-hours.

This set up a possible bottom-fishing buyable gap-up (BFBGU) move on Friday, as I blogged Thursday after the close. However, FNSR was unable to hold above its 200-day moving average where it ran into resistance and then reversed on very heavy volume. Thus, what started out as a possible BFBGU ended up as a shortable gap-up once it failed at the 200-day line.

The intraday low of the BGU is at 27.38, so there is always the possibility that the stock is able to hold that level and rally. Of course, it would then need to clear resistance at the 200-day line, but if it can’t such a rally might simply set the stock up as a short again at the line.

 

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The gap-up move in FNSR triggered sympathy moves in several optical cousin-stocks Friday, including Lumentum Holdings (LITE). The stock has been holding up constructively above its 10-day moving average and found some minor volume support at its 10-day line on Friday. Technically, this remains buyable on constructive pullbacks to the 10-day line, although the optical group in general remains a bit tepid.

 

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Applied Optoelectronics (AAOI) is indicative of this tepid action among optical names, but it did hold support at the 50-day moving average and the top of the prior base. I indicated in my Wednesday mid-week report that the stock needed to hold support at this combination of key price levels, and so far, it has.

Notice also that Thursday’s test of the 50-day moving average also undercut the prior 58.96 low of May 18th, triggering an undercut & rally long set-up at that point. From here, the U&R remains in force, so any small pullback closer to the 58.96 price level on light volume might present a lower-risk entry.

 

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Leading stocks, for the most part, trouble me. True, some are holding up fine, but others are starting to show signs of deterioration. For example, Salesforce.com (CRM) acted very much like a short-sale target on Friday as it rallied right up into its 50-day moving average and then reversed to close down on very heavy selling volume.

Previously, CRM had split wide open on a big price break off the peak on heavy volume two Fridays ago during that day’s tech wreck. This may jiggle around its 50-day line a bit more, but there is no way I can view this chart as constructive unless and until it can regain the 50-day line, if at all. A prior leader gone bad, to be sure.

 

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Two other cloud names that I’ve discussed in recent reports, Workday (WDAY) and ServiceNow (NOW), not shown here on charts, also got shellacked two Fridays ago but have only broken below their 20-day exponential moving averages. WDAY is sitting below the $100 Century Mark, which puts it in a shortable position using the 100 price level as a tight upside stop, while NOW sits just above its own $100 Century Mark price level.

So, while WDAY is already actionable as a short given that it has failed to hold the $100 price level, invoking Jesse Livermore’s Century Mark Rule in Reverse for the short side, NOW is not. But NOW is sitting just below its 20-dema, which puts it in a different kind of short-sale position using the 20-dema at 102.89 as a guide for an upside stop. Should NOW bust the $100 price level, then it would become actionable based on Livermore’s Century Mark Rule in Reverse.

One notable exception in the cloud space is Tableau Software (DATA), which doesn’t show this “L” type of formation that seems to be quite prevalent among recently leading stocks. Whereas most of these stocks broke down hard in the tech wreck of two Fridays ago and are now tracking in L-shaped bear flag types of formations, DATA experienced what looks more like a shakeout and quick recovery back to its pre-sell-off levels.

On Friday, the stock found support at its 20-day exponential moving average on increased volume. This comes as the stock has held tight along the 20-dema with volume drying up sharply over the prior two trading days and after a big-volume shakeout that found significant support at the 50-day moving average. I like this set-up, and DATA might be one stock to look at on the long side here given its favorable chart position.

 

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The three video-gaming names I’ve been following in my reports for a considerable amount of time were also not immune to the tech wreck we saw two Friday’s ago. Electronic Arts (EA) was smashed that day, and has done very little since then to inspire confidence. On Friday, the stock reversed at the 10-day moving average on heavy options-expiration selling volume. If I were long this thing, I’d be out of it by now, and the question is whether it will now test the 50-day moving average down at 102.33.

 

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Activision Blizzard (ATVI), not shown, ran into resistance Friday at its10-day moving average, which may indicate that a pullback and retest of the tech wreck lows is coming.

Take-Two Interactive (TTWO), meanwhile, is tracking tight sideways along its 20-day exponential moving average which may put it in a shortable position using the Friday’s intraday high at 75.07 as a guide for an upside stop.

The video-gaming stocks have been a leadership mainstay in the 2017 market rally, to the extent that I have considered them to be “lipstick stocks.” They tend to move in packs, and we are now starting to see some serious wobbling in their patterns, which may portend further downside and tests of their 50-day moving averages in the coming days.

 

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We can also see how the three video-gaming stocks, EA, ATVI, and TTWO, all have this similar L-shaped formation that is typical among leading stocks in this market.

Notes on other names discussed in recent reports below:

Arista Networks (ANET) – looking a little weak here as it finds resistance along the 20-dema in what may be a short bear flag.

Edwards Lifesciences (EW) – tracking along the 10-dma after getting hit hard off the peak two Fridays ago. Would stand aside here for now.

Impinj (PI) – moved sharply higher Friday and into all-time high price territory on the news of AMZN acquiring WFM. This was because of recent speculation that PI could be in line to win business from AMZN’s Go project, which is its new grocery business line.

iRobot (IRBT) – testing the 20-dema on heavy selling volume. My view is that if one still owns this then the 20-dema would serve as your maximum selling guide.

Palo Alto Networks (PANW) – remains a short on rallies into the 200-day moving average.

SolarEdge Technologies (SEDG) – continues to act well as other solar names FSLR and SPWR start to flail about. I would not be looking to buy into this just now, however, given its extended position.

Square (SQ) – stock found solid support at its 20-dema on Thursday, but likely needs to continue settling down as it tracks sideways since the tech wreck of two Fridays ago.

Sunpower (SPWR) – this has been removed from my buy watch list based on the weak action and its failure to hold the 10-day moving average.

Universal Display (OLED) – has fallen back into its prior five-week base, which makes it a failed base breakout situation unless it can regain the prior 118.25 breakout point. OLED closed at 116.90 on Friday.

Zillow (Z) – acting well but extended on the upside.

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).

I still consider this market to be a bit messy currently. The indexes themselves don’t look as bad as many leading stocks do, so the underlying action may be indicative of more weakness to come. True, the Dow Jones Industrials Index did post a new all-time high on Friday, but this was not confirmed by any of the other major market indexes.

And while the S&P 500 remains in a two-week flag formation, the NASDAQ lies just above its 50-day moving average. Both indexes are in position to rally, however, so I would not discount this possibility. What actions one can take, however, appear far more dependent on the specific stock set-ups one is looking at.

I can see set-ups on both the long and short-side, which just adds to the mixed action we are seeing among leading and previously leading stocks. Thus, I think we need to be ready for anything, without leaning too far to the bullish or bearish side. As I’ve noted further above in this report, we could be seeing some “LUie” type formations setting up in big-stock leaders like FB, the video-gamers, the clouds, and others given the preponderance of L-shaped formations created by the prior week’s tech wreck sell-off.

Are these formations bear flags, or are they potential LUie formations where the “L” has yet to turn into a “U?” The answer to that question is unclear, but I’m certain that it will be forthcoming in the next few days. I just want to make sure I am in a psychological position to keep an open mind and let the market tell me what to do, rather than me telling the market what to do.

Because of the murky action among individual stocks, my inclination here is to bag profits in long positions that are extended to the upside while keeping plenty of dry powder available to act in either direction as necessary. While the major market indexes may remain in an uptrend, this is not the case for any number of leading and previously leading stocks. Most are in unclear chart positions.

Stay alert, and be ready to react to real-time evidence that may help clarify matters in the coming days, and to do so without bias or any preconceived ideas of what should happen. That is all.

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 no positions, 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.