The Gilmo Report

June 3, 2012

June 3, 2012


What was a high probability by Wednesday of this past week became reality as both the NASDAQ Composite and S&P 500 Indexes blew through and closed below their respective 200-day moving averages, as the NASDAQ Composite Index daily chart illustrates below. Volume did come in lighter on Friday on the NASDAQ, but not by much despite Thursday being the third-highest volume day for the “NAZ” in 2012, but the NYSE did trade heavier volume. It remains to be seen whether these key market indexes can reach back and grap onto their 200-day lines as they plummet past it, a bit like a cartoon character grabbing onto a tree branch in order to break his fall as he careens down the cliff’s face. On the chart we can see two clear “mini” downlegs off of the late March market peak, and with the index rolling over again over the past three days we are looking at the third leg of this little downside triad. This would tend to argue for a more extended downside move through the 200-day moving average, and I might be more confident of this if we weren’t in an environment where a QE announcement might come at any time. On the other hand, is QE subject to the law of diminishing returns, and will it be able to save stocks?

NASDAQ Gilmo Report Stock Chart

In my report of this past Wednesday I noted that the action in gold might be a clue regarding the possibility of QE coming from somewhere, but if it is the scent of QE in the market that got gold moving on Friday then it certainly didn’t do much to help stocks. Once the Bureau of Labor Statistics’ monthly jobs number came out Friday morning, gold and stocks seriously parted ways as the yellow metal had its biggest one day percentage move in as long as I can figure, 3.7%. Silver also chimed in with a move in excess of 3%, but right now it looks like gold has taken the lead. In the past two reports I’ve discussed the favorable risk/reward proposition that the SPDR Gold Shares (GLD) presented given its proximity to the 148.27 lows of its current base, as we see in the daily chart, below. Taking a position around the 150 level using the 148.27 level as a downside guide for a stop was a simple trade to make, and so far it is working. If you bought the GLD on this basis then you needn’t think any longer, just sit using the 148.27 level as your stop. The GLD has some resistance at the 50-day moving average to work through from here, but if today’s volume thrust is any indication it has a reasonable chance of doing so soon enough.

SPDR Gold Shares (GLD) Gilmo Report Stock Chart

While money flowed into Treasury bonds and precious metals as safe havens on Friday, it didn’t flow into stocks, as the daily chart of big-stock leader Apple (AAPL) illustrates. If Friday’s jobs number raised the possibility of QE, then why didn’t stocks rally? Was it the jobs number that sent stocks down and gold and treasuries rocketing to the upside, or the realization that the liquidity crisis in Europe is reaching a tipping point? As a key barometer of this current market, AAPL didn’t contribute any real volume to the market’s sell-off either today or yesterday, but it is rolling over as volume begins to pick up, as we see on the daily chart below. Notice also that AAPL has two clear downside legs in its pattern, and its inability to clear the 586 level and the 50-day moving average, at least in the near-term, brings into play a possible undercut of the mid-May low at 522.18, 18.9% off of its recent all-time high of 644. Leading stocks can correct as much as 25-30%, so it would not be out of the question to see AAPL perhaps test its 200-day moving average as it approaches the 480 level, another 10% down from Friday’s closing price.

Apple (AAPL) Gilmo Report Stock Chart

If the market is going into a third leg to the downside, yes, I might consider AAPL shortable for a move down below the 500 level using a stop at Friday’s intra-day high of 572. The reality of the short side over the past three days is that you pretty much could have thrown a dart at the Wall Street Journal or Investor’s Business Daily stock tables and picked a stock to short since just about everything has been getting shellacked over this time period. Looking at the daily chart of one of my recent short-sale targets, LinkedIn (LNKD), below, we can see the stock down for the past three days in a row where it still lies 7.3% above its 200-day moving average. In my Wednesday report I postulated that we might see LNKD push down to the 200-day moving average in synchrony with the NASDAQ and S&P 500 doing the same with their own 200-day lines. I still expect to see LNKD trade down to that level. Notice, however, that it is just undercutting the low of two weeks ago at 92.33 which sets up a slight “undercut & rally” potentiality. I see the 10-day moving average at 98.37 as my ultimate upside trailing stop on the stock.

LinkedIn (LNKD) Gilmo Report Stock Chart

My other short-sale target, (CRM), did break down with the market and is sitting 43 cents above its 200-day moving average, as we see on its daily chart below. News that major competitor Oracle (ORCL) is coming out with a directly-competing suite of products as it sets its sights squarely on CRM’s business probably did not help the bull case for CRM, but for now it is doing what the other two members of the cloud-computing “Power Trio,” F5 Networks (FFIV) and VMware (VMW), have already done by busting their 200-day lines. Notice also that CRM is undercutting its mid-May low of about two weeks ago, and this sets up a potential undercut & rally type of bounce off the 200-day line. That I would view as potentially shortable since I would expect CRM to eventually bust through its 200-day moving average as FFIV and VMW have done. Both of those stocks also didn’t bounce much, if at all, off of their 200-day moving averages, so it may be that CRM does not have much of a bounce here either. While I am oriented towards covering a CRM short here at the 200-day moving average, I would view any weak bounce or even the inability to bounce as a reason to re-enter a short position in CRM. Bottom line is that I believe longer-term you will eventually see CRM test the 80 price level or lower. (CRM) Gilmo Report Stock Chart

Google (GOOG), which I saw as shortable on a breach of its 200-day moving average as I discussed in my report of two Wednesdays ago, is now well below that key moving average, as we see on the daily chart below. Friday’s move was a short of gap-down-and-hold type move, and I can see the stock moving lower to undercut the prior lows in its pattern at around the 560 price level in the short-term. Keep in mind that the breakdown over the past six days is barely 6-7% on the downside, so GOOG could easily see 500 if the general market continues on a deleterious third mini-down leg in its pattern as the NASDAQ and S&P 500 break through their 200-day moving averages. All of the big NASDAQ stocks, from (PCLN) to Intuitive Surgical (ISRG) to Apple (AAPL), have broken down, and they will likely continue to break down as the market enters what the media is now saying is an “official” bear market. I don’t know what an “official” bear market is myself, but I do know that we saw this downtrend starting a few weeks ago – for now all we know for sure is that we are in a market downtrend, period.

Google (GOOG) Gilmo Report Stock Chart

Now that the crowd knows we are in an “official” bear market, we might expect a reaction over the next couple of days as the crowd rushes to sell on the basis of the NASDAQ and S&P 500 breaking their 200-day moving averages. I would, however, be alert to covering short positions since what the crowd now knows may set up a sharp upside bounce, particularly if we see some sort of “official” QE announcement coming from the Fed or the European Central Bank. I would tend to see such a bounce as potentially shortable, and would simply keep an eye on my short-sale target stocks to see if they rally up into logical areas of overhead resistance. This is just one possibility, however, based on what the crowd now sees, and as we know from experience the market loves to fool the crowd in the short-term.

The other possiblity is that the market blows another 10% to the downside from here in a hurry before staging some sort of reaction low and bounce to the upside. My point as a short-seller in this market is to simply be aware of this, and to not allow the excitement and rush of short-sale profits get to my head. As short-sellers we must try to understand what the market is going to give us on the short side, and when it does, we must take it without getting caught up in a bearish cloud of greed. As they say, bulls make money, bears make money, pigs get slaughtered. Our recent short-sale targets have for the most part come down to our downside price objectives, and so I might be more inclined to play an extended third-leg move through the 200-day moving average by shorting AAPL, believe it or not, since it stands a good chance of being dragged down towards that 522.18 prior low from mid-May along with the market. As well, GOOG’s move on Friday could be seen as a “shortable gap-down” using a very tight stop at the intra-day high of 572.65, or a less tight stop at the top of the gap at Thursday’s low of 579, just under 2% from Friday’s 570.98 close.

Meanwhile, if I have to be long anything I’m going to be long gold, specifically in the form of the 1x GLD ETF or the 2x DGP. As the gold move gains some traction, assuming it does, I might be inclined to switch from the GLD to the DGP, but for now, buying here off the bottom as I’ve indicated in previous reports, my preference is to play it cool with the GLD. My own view is that the huge move in gold on Friday was not due to the potential of QE coming into play again, although that is one factor, but a perception by the markets that the reign of fiat currencies in the modern era is steadily coming to a close, as has been the case with ALL fiat currencies throughout history. Remember also, that when insolvency comes it comes quickly, and they don’t ring a bell beforehand. Consider that a year ago the Fed was forecasting 4% GDP growth in 2012, and by May of 2012 we will be lucky if we see half of that by year-end. The global economy is coming to a screeching halt, and consider that this is occurring in the midst of unprecendented fiscal and monetary stimulus spewing forth from statist governments worldwide. In my view, another round of QE may serve to temporarily prop up asset prices and keep markets from collapsing in the short-term, but the fact is that more QE-stimulus may simply be like pushing on a string, and the objective economic outcome of all the massive, off-the-charts historically unprecedented stimulus that we’ve seen so far has in fact done little more than push on a string. If gold rallied sharply on Friday on the scent of QE, does the fact that stocks blew to the downside tell you that another round of QE will indeed be even more like pushing on a string?

I’m not sure how long it will take, but I can see 2600 on the NASDAQ Composite and 1200 on the S&P 500 as potential downside targets from here. Hopefully, I have been able to keep Gilmo members on the right path in order to participate in the market’s weakness in May in a profitable manner. But remember that staying in cash is also just fine for more risk- and volatility-averse members who prefer to simply wait for the next rally phase to emerge again once the bear goes back into hibernation. Stay tuned.

Gil Morales

CEO & Principal, Gil Morales & Company, LLC
Principal and Managing Director, MoKa Investors, LLC
Principal and Managing Director, Virtue of Selfish Investing, LLC

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