The Gilmo Report

March 16, 2011

March 16, 2011

Over the past two weeks a lot of “scary” news has provided what I see as the perfect “cover” for the systematic selling of big institutional investors. With Japan providing the latest “crisis du jour,” investors look to buy in on the “all clear” signal which invariably comes after each round of bad news. Meanwhile, what happened to Libya? In my view, news can easily provide an “alibi” for institutional investors to sell into, and when the news is eventually resolved the market can then rally, sucking in “bargain hunters” and setting up another opportunity for smart money to sell into again. When we block out all the news and observe the price/volume action of the NASDAQ Composite Index, shown below on a daily candlestick chart, we can see that Tuesday’s reversal off the extreme morning lows was likely justified and “logical” based on the fact that the index was undercutting prior lows, setting up an “undercut & rally” that took the index right back up into resistance as I’ve highlighted in pink on the chart. We can also see that two “bearish harami” formations preceded the gap-down below the 50-day moving average, and today’s action closed at a lower low on much heavier volume. While the market looks to me like it needs some sort of reflex rally given its oversold condition, such extreme oversold action could also be telling us just how weak the market is here, so I do not want to be entertaining the long side at all trying to anticipate a rally

NASDAQ Composite Index Gilmo Report Chart

A major warning sign in my view is the fact that Apple, Inc. (AAPL) has broken down significantly through its 50-day moving average, and this action qualifies as a bona fide violation of the 50-day line as well, as we see on its daily candlestick chart below. AAPL has generally tended to “obey” its 50-day moving average rather well since the March 2009 market lows, and this change of character may be setting up the potential for further downside in one of the biggest of the “big stock” tech leaders. Investors should take strong notice of this, as I believe it does not bode well for the long side of this market, and potentially for the tech sector at large. Downside volume in AAPL today was the heaviest we’ve seen in the stock since it gapped down on earnings in mid-January. Back then the stock recovered from its lows to close reasonably well that day, but today’s action slammed the stock hard as it broke well below the 50-day line as well as the 65-day exponential moving average. My feeling is that any rally by AAPL up into the 65-day e.m.a., initially, or the 50-day simple moving average is likely a shortable rally. And if AAPL becomes a short here, that says all you need to know about this market right now, as I see it.

Apple, Inc. (AAPL) Gilmo Report Chart

Precious metals and other commodities broke down on Tuesday as the market sold off hard, and among these was of course my favorite precious metal, silver, shown below on a daily chart of its close proxy, the iShares Silver Trust ETF (SLV). Notice how the SLV held the 20-day moving average on the previous rally that carried it from around the $20 level to the $30 level before it pulled back and corrected in January. Now we see the SLV pulling back to the 20-day moving average again, and in my view it has to hold this line to keep the short-term uptrend intact. Otherwise we are likely to see some consolidation here. One factor that might be driving the decline in precious metals and commodities at large is the fact that the earthquake in Japan has taken the country out of the picture as a consumer of raw materials, essentially serving to reduce demand. This has the potential for bringing precious metals and commodities down lower, although my guess is that if the general market comes down further the precious metals and commodities will come down as well, but not as much. In any case, I would use a violation of the 20-day moving average here as my guide for stopping out of any position in the SLV in the near-term.

iShares Silver Trust ETF (SLV) Gilmo Report Chart

Among the stocks on my short-sale watch list, I’ve discussed the “big stock” cloud plays as some of my initial targets. F5 Networks (FFIV) has broken down to is 200-day moving average where it found support this week, and VMware, Inc. (VMW) has broken below its 200-day moving average. I don’t show charts of these here since I believe they are too far down in their patterns right now to be lower-risk short plays, but I would expect that the third, Salesforce.com (CRM), might be in position to follow these stocks lower as well. CRM was a late-stage base-failure in late February, as we see on its daily chart below, and since then has drifted lower without mustering much of any kind of rally back up into the 50-day moving average, currently at 134-135. Today the stock reversed on heavy volume and my expectation is that it will eventually test its 200-day moving average at 117-118 if the general market remains in trouble. Otherwise, a rally to the 50-day moving average or at least the 65-day e.m.a., the black moving average on the chart, would be an optimal short-sale point. That may not happen, however, so any short position taken here in CRM should use the 65-day e.m.a. at around 131-132 as a stop.

Salesforce.com (CRM) Gilmo Report Chart

Given that the market is only a few weeks off of its recent price highs, most of the initial short-sale set-ups (unlike FFIV which was a very nice Head & Shoulders set-up) will be Late-stage Failed-Base (LSFB) types of set-ups, similar to CRM, for example. Deckers Outdoor Corp. (DECK), a big leader in the market’s rally since the September 1, 2010 follow-through day (FTD) could be shaping up as an LSFB as we see on its daily chart below. In the latter half of February the stock tried to break out of a short cup base but in the past week has failed back down below the initial breakout point at around 87-88 and its 50-day moving average at around 81.94. The stock is now wedged between the 50-day line (blue) and the 65-day exponential moving average (black). Given that this is the initial break of the 50-day moving average, I would look for the stock to break from here and potentially make a move towards the lows of its prior base near the 70-71 price level, as I’ve indicated on the chart. Shorting DECK here provides a ready guide for an upside stop at around the 50-day line at 81.94, give or take a couple of percent.

Deckers Outdoor Corp. (DECK) Gilmo Report Chart

Another potential late-stage failed-base type of short-sale set-up might be forming in Citrix Systems (CTXS), shown below on a daily chart. CTXS has always puzzled me given that earnings growth in the last quarter came in at 2%, and next quarter’s estimates are looking for growth of 5%. Meanwhile, the company’s annual estimates for 2011 and 2012 are looking for 17% and 14% annual earnings growth, respectively. CTXS is basically flat-lining, and in mid-February the stock broke out of a very loose and sloppy base from which it has recently failed. In late February CTXS broke down but found support at its 65-day exponential moving average before rallying again for new highs, but this time on very tepid upside volume. Today we saw volume come in well above-average as the stock broke its 50-day moving average and the 65-day e.m.a. Using today’s high near 70 as your guide for an upside stop, this has the potential, in my view, to break down towards the 200-day moving average at around 61-62. This would also coincide with an undercut of the late-January lows at around the same price level, and so would constitute my initial downside price target should the stock continue lower.

Citrix Systems (CTXS) Gilmo Report Chart

As I discussed over the weekend, Netflix, Inc. (NFLX) found support when it “filled the gap” from January 27th and then rallied back up into its 50-day moving average, as we see on the daily chart below. I tested a short position here, but three days ago the stock did not experience any heavy-volume selling as it found slight resistance at the 50-day moving average. Yesterday NFLX logged a pocket pivot buy point as it moved above the 50-day moving average, thanks to a big upgrade and $300 price target from Goldman Sachs. While I immediately covered my short on Monday when the stock did not break hard at the 50-day line, I would not necessarily go long this thing right here on the basis of the pocket pivot buy point yesterday. In my view this is too soon off the lows of last week, and it is still possible that NFLX could break support at those lows if the general market remains weak. But while I would not buy it here, I would also not short it here, but rather would wait to see how this develops over the next few days. A second high-volume breach of the 50-day moving average could be very negative for NFLX, should that occur, but for now this is a wait-and-see type of situation.

Netflix, Inc. (NFLX) Gilmo Report Chart

Over the weekend I discussed two prior gap-up stocks, Green Mountain Coffee Roasters (GMCR) and Whole Foods Market (WFMI) that were consolidating constructively and looked poised to move higher, and despite today’s rough ride in the general market both of these stocks managed to move higher. GMCR, shown below on a daily chart, picked up some buying volume, but not enough to clear to new highs.

Green Mountain Coffee Roasters (GMCR) Gilmo Report Chart

Meanwhile, Whole Foods Market (WFMI) staged a pocket pivot buy point, surprisingly enough. Unfortunately, the general market action makes buying anything a dicey proposition, at best.

Whole Foods Market (WFMI) Gilmo Report Chart

While the market becomes very “oversold” here and appears to be in need of some sort of “reflex rally,” it is not clear to me that this necessarily has to happen. It is possible that some sort of resolution to the Japanese nuclear reactor issue could produce a reflex bounce on some sort of gap-up opening move, but I would tend to look at such an upside move as something to look at shorting into. I do not believe that the news regarding Japan is solely responsible for the market’s weakness, any more than I believe that the news regarding first Egypt and then Libya were solely responsible for the selling. I tend to think these news events merely served to “alibi” the selling of big institutional investors. Once the news on Japan starts to resolve and clarify itself, we will see exactly where all this selling in the general market is gong to lead us. I don’t like the looks of most leading stocks, such as AAPL, which are continuing to break down, one by one, as this does not bode well for the market’s future whatever the “reason” for the selling. Likewise, there are few stocks setting up constructively in bases, which leads me to believe that a sudden turn and burst to new highs is not in the cards for the market, for at least the immediate present. Beware!

Gil Morales

CEO & Principal, Gil Morales & Company, LLC

Principal and Managing Director, MoKa Investors, LLC

At the time of this writing, of the stocks mentioned in this report, Gil Morales, MoKa Investors, LLC, and/or Gil Morales & Company, LLC held a position in DECK, 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, 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. ©2011 Gil Morales & Company, LLC. All rights reserved.

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. ©2008-2018 Gil Morales & Company, LLC. All rights reserved.