The Gilmo Report

March 4, 2012

March 4, 2012

 

A good old-fashioned short-term correction in the general market would certainly help investors discern which stocks are your strongest leaders, since during any correction the best leaders stodgily and stubbornly hold their ground. In this environment, however, the market indexes also engage in this type of behavior as the indexes bend but do not break. So far the daily chart of the NASDAQ Composite Index reveals little more than further sideways consolidation over the past four days as volume receded on Friday’s pullback. On balance, the market finished slightly up for the third week in a row, not so negative on that time frame.

 

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We find some confirmation in that, despite Wednesday’s big-volume reversal, the market continues to trade in a relatively tight range, and this is evident on a weekly chart of the NASDAQ Composite, shown below. Note also how despite trying to sell off over the past two weeks on an intra-week basis, the index shows that it closed well in the upper part of the weekly price range each week over the past three weeks. This week the index closed in the upper half of the range with volume picking up, perhaps a subtle sign of accumulation that is only evident on the weekly chart.

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The small-cap Russell 2000 Index, represented by the daily chart of the iShares Russell 200 Index Fund (IWM), is rolling over as it diverges from its larger-cap brethren. This would be more concerning to me if the Russell were the leading index, but that distinction goes to the NASDAQ currently, so it is a matter of which index is going to drag the others along with it.

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The precious metals have tried to stabilize over the past two days after getting bashed on Wednesday, and between the SPDR Gold Shares(GLD) and the iShares Silver Trust (SLV) I tend to think that the SLV is in a better position to recover here if that is what it wants to do. The SLV has no immediate overhead while the GLD, not shown, dropped below the lows of its prior flag-type consolidation that it formed in the early to middle part of February. The SLV, on the other hand, also formed a flag formation during the same period, as I’ve highlighted in yellow on its daily chart below. This is in a distinctly different position as it is sitting right on top of the prior flag from which it broke out of early last week, which could serve as support. If the selling on Wednesday was a bizarre one-day abberation or manipulation, then I would expect selling volume to diminish here as it did on Friday. From there I would then like to see a pick up in volume send the SLV back above its 200-day moving average, at which point I would become interested in the white metal again. The main question is whether the action in the precious metals is a sign that the QE driver, while still there, is not increasing. And so while the precious metals might go into the doldrums here, there is still the possibility that stocks can rally on the basis of improving government economic policies if the November election results in the electorate “throwing the bums out,” and hopefully electing some less economically harmful “bums” in their stead.

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Hopefully my impromptu special GoView.com video report Thursday night that was sent to subscribers to the free marketletter was somewhat discernible for those who watched it. I love the GoView.com technology, but since it is still a free service in beta test, it has its glitches, and sometimes plays back with uneven results depending on one’s operating system, browser, and other factors beyond my control. In that video, I discussed Rackspace Holdings (RAX) as being in a good position to buy shares, and on Friday the stock followed through for us with a strong pocket pivot move off of the 20-day moving average and up through the 10-day moving average on the daily chart below. RAX did have some “porosity” around the intra-day low of the gap-up day, and I admit to being stopped out when it fell below that 42.70 low over the past week or two. However, that does not prevent me from coming right back into the stock Friday morning once I have determined that the stock is in fact acting fine, as I discussed Thursday evening in my video presentation. RAX is potentially buyable here with the idea that it should hold the low of Friday. Among the cloud networkers, RAX has the strongest earnings growth, so in this group it is my preferred choice over, say, F5 Networks (FFIV), which only grew earnings 17% in the last quarter vs. RAX’s 80% growth.

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Chart courtesy of HighGrowthStock Investor (www.highgrowthstock.com), ©2012 used by permission.

The action in certain newer tech situations, whether in social-networking or cloud-computing, strikes me as constructive in the face of a market that is seeing the small-cap indexes roll over. Even better is a company that combines social-networking for businesses within the cloud, such as a stock we’ve been following for a while, Tibco Software (TIBX), which we first picked up as it was coming up off its lows in a “low-base breakout” and bottom-fishing pocket pivot maneuver back in mid-January, as I first discussed in my report of January 18th. Since then the stock has worked its way up the right side of a cup formation and is in a position where it could break out to new highs. Notice how on Monday of this past week the stock issued a strong pocket pivot buy point coming up off the 10-day moving average, as I’ve indicated on the daily chart below, and this came the day after a previous pocket pivot where the stock stalled slightly. As the market got hit on Wednesday TIBX held its ground very well as it holds above the lows of the past four days’ consolidation. This is potentially buyable here, using a violation of the 10-day moving average as your nearest selling guide.

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Chart courtesy of HighGrowthStock Investor (www.highgrowthstock.com), ©2012 used by permission.

Another newer merchandise type of situation that is beginning to resurrrect itself as it rises up from the lows of a possible base is our old friend Fusion I/O, Inc. (FIO), shown on a daily chart below. On Thursday and Friday several analysts came out talking about the huge opportunity and growth potential that FIO faces, and this helped to send the stock higher with two pocket pivot signature type moves on both of those days. Thursday’s move was a pocket pivot coming up off of the 10-day line, and Friday’s move was a pocket pivot volume signature occurring on a low-base breakout. Notice that this week’s action also comes on the heels of a bottom-fishing pocket pivot two weeks ago as the stock first came up and through its 50-day moving average. In my view, the buying volume here is the biggest in FIO’s entire pattern since the day it came public, and I consider this a sign of institutional accumulation that is confirmed by an increase in the number of mutual funds owning the stock from 185 to 310 over the past quarter. Taken together, I consider this an indication that the odds of higher highs from FIO going forward are pretty decent, and I would like to see the stock pull back and test the 30 price area on low volume, where I would be willing to take some shares and then see where it goes from there.

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I know that a number of the “big stock” leaders we’ve discussed in prior reports such as AAPL, PCLN, ISRG, MA, etc. have done well and continue to hold up well, but my focus outside of say, AAPL, which I have played reasonably well so far, is on some of these “new merchandise” situations we have seen develop recently. Obviously, I put TIBX and FIO in that new merchandise category, as well as a stock we first identified under the $11 price level as it was pocket pivoting up and out of its first “IPO base” back in early January, Invensense (INVN), as I first discussed in my report of January 4th. On the weekly chart of INVN, we see the stock pulling in to begin what may be its next base as the stock has pulled down over the past three weeks. What is critical here, in my mind, is that the stock is pulling right down into its 10-week/50-day moving average, and is doing so on news of a $110 million secondary offering. Share-wise, that looks to be about 6 million shares, and I am quite interested to see how the stock acts once this secondary is priced. Having played the stock before and having sold it around the 18-19 area, I consider it possible to nibble back into the stock on this pullback with the idea that it should hold the 10-week/50-day line.

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So far I consider the pullback in LinkedIn (LNKD) to be quite normal, despite the fact that suddenly everyone loves to hate the stock again. Speaking for myself, I was hoping to play a high-momentum breakout through the 95 level, but that did not occur and I blew my shares out around the 90 level as the stock dropped below the 10-day moving average. That is just my approach towards handling big positions in uber-aggressive fashion, and with the stock drifting back into the 20-day moving average I am willing to begin taking back stock as I nibble on this constructive action over the past couple of days. Note how volume support came in right at the 20-day moving average as the stock held tight over the past four days even in the face of Wednesday’s market reversal. If you bought LNKD on the basis of the buyable gap-up three weeks ago and are still holding, you are fine, and should continue to use the intra-day low of the gap-up day at 82.06, which is less than 8% from where the stock closed on Friday, as your stop. The February 15 short interest numbers show that 7.75 million shares are still sold short on an 11 million share float, and I would not be surprised to see this recent, normal pullback suck in more hapless short-sellers who insist on being smarter than the market, despite the expanded institutional ownership in the most recently reported period.

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LNKD’s cousin social-networker, game-maker Zynga, Inc. (ZNGA) followed through on the constructive action I have been seeing in its weekly chart over the past three weeks (see last weekend’s February 26th report) by launching up and out of its short flag formation to new highs on news that the company was launching its own gaming site, Zynga.com. Despite reversing and giving up a large part of its gains Friday on intra-day news regarding the departure of one of its lead game designers, ZNGA still held up on the day, closing in new all-time high price ground. ZNGA, like LNKD, is another social-networker that shorts love to hate, and of course the new Zynga.com is being talked down as a “suicidal” move by the company. What the naysayers tend to overlook here is the overall technical action of the stock, which remains constructive, as well as the potential for the stock to move into the online gambling space. The other thing to consider is that ZNGA’s move this week came up from the “underside” of the flag, where there is some overhead in the 13-14 price range from the early part of February. This likely came into play as investors who bought ZNGA in the 13-14 range earlier in February used it as an excuse to unload shares. I would look for ZNGA to hold the 14 level with volume drying up.

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Bio-techs have been an uneven bunch lately, with some of the names I’ve liked previously like CPHD and ABMD fizzling out a bit, but this only serves to identify the stronger names in the group. Through all the market’s machinations this week, I noted that Viropharma (VPHM) held firm, even flashing two pocket pivot buy points off of its 10-day moving average on Tuesday and Thursday. VPHM has also not violated its 10-day moving average in five months, so buying the stock here means using a very simple and easy selling guide, namely a violation of the 10-day moving average. Mutual fund sponsorship in VPHM continues to build, with a peak of 428 funds owning the stock now. It is also a very profitable bio-tech with 34.2% quarterly after-tax margins. My data source shows a 20,417.9% return on equity for 2011, which is likely an error, but we can see that 2010 ROE was 41.8%, very strong for a bio-tech company. VPHM also weathered “negative news” very well a couple of weeks ago when their applicaton to build another factory to manufacture their marquee drug, Cinryze, was rejected. Based on the technical action, that was not a critical bit of news for the stock as it simply recovered and now continues to close at new price highs as it obeys the 10-day moving average all the way up.

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Chart courtesy of HighGrowthStock Investor (www.highgrowthstock.com), ©2012 used by permission.

Alexion Pharamaceuticals (ALXN) remains a bio-tech powerhouse in this market as it continues its relentless march higher. A couple of weeks ago I suggested taking profits on the stock here in the 82-83 price area, as this can be a sound way of taking profits if a stock takes longer than three weeks to move 20% or more after breaking out of a sound base. However, ALXN continues to act very strongly, flashing two pocket pivot buy points along the 10-day moving average this past week – one four days ago, and one on Friday. I only point out Friday’s pocket pivot on the daily chart below, which I consider buyable using a violation of the 10-day moving average as your selling guide. ALXN has tried to break its 10-day moving average before, closing below it twice over the past month, but each time it did not move below the intra-day low of each of those closes below the 10-day line, hence it has never violated the 10-day over the past ten weeks.Thus that becomes your simple selling guide now, ignoring the “take profits at 20%” rule which does not take into account stocks that may go up 20% in more than three weeks but which continue to exhibit outstanding and powerful technical action. ALXN is one such stock.

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Another bio-tech exhibiting strong action is Salix Pharmaceuticals (SLXP), which came in and beat earnings earlier this week with a nice 87% increase in earnings growth. SLXP, like ALXN and VPHM, makes what is known as an “orphan drug,” a drug that treats a specific rare medical condition or disease. ALXN has Soliris for the treatment of paroxysmal noctural hemoglobinura, VPHM has Cinryze for the treatment of hereditary angiodema, and SLXP has its new Xifaxan 550 for the treatment of hepatic encephalopathy. SLXP is also showing strong technical action with its pocket pivot buy point from earlier this week, as we see on the daily chart below. This was a sharp move up through the 50-day and 10-day moving averages from the lows of its current base, so some overhead selling is to be expected. However, I like the way that SLXP has pulled in to the top of its base in recent days as selling volume has subsided. This is very much a buyable situation on the basis of the pocket pivot as well as the base breakout, using either a standard 7% downside stop which is roughly equivalent to a violation of the 50-day moving average currently running through the 47.96 price level. SLXP is also a very profitable bio-tech with current quarterly after-tax margins of 49% and a current return on equity of 37.7%.

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On Wednesday I was forced to take action in my heavily-weighted precious metals ETFs, and this caused me to simply move to cash in order to re-think a redeployment back into stocks if the market held up and leading stocks continued to show me new buy points. We’ve seen that in recent days, despite the high-volume reversal on Wednesday, which was mostly caused by the massive downside spin-out in the SLV and GLD. As I said in my Wednesday report, that might strike some as somewhat extreme, but it is typical of how I operate. I recall Bill O’Neil describing to a mutual fund manager that we were meeting with back in the early 2000’s how we worked our stocks: “Well, that one runs up and we sell it and go on to the next one, and then that one runs up and we sell it and go on to the next one, and then that one runs up and…” That’s pretty much what it’s all about from my perspective, and we can see from the ideas I’ve discussed in this report that there are some nice new buy points in some new names as well as names we’ve been following since early January.

If leading stocks continue to act well, and new or existing leaders show me buy points, then redeployment is a relatively simple and low-risk affair. This sort of “flush and reset” activity is something I find that keeps my head clear, particularly since I like to run big, concentrated positions. It is not necessarily something that all investors need to engage in, as some may take a slower, less concentrated approach to building a portfolio. But as I see it, if I’ve built a nice brick wall and the market comes along and blows out a few of the supporting bricks in that wall, such as my silver and gold ETFs which were the foundation of the portfolio, then I simply bag whatever profits I have, tear down the wall, and look to rebuild with a fresh batch of bricks and mortar. That may not make sense to other investors, but it makes sense to me. Bill O’Neil once told me that the “hardest thing in the world to be is what others want you to be; the easiest thing in the world to be is yourself.” I consider my failure as a hedge fund manager in 2009 as partly due to trying to be what others wanted me to be, while my success in 2011, a very difficult environment, is a clear function of getting back on track and simply being what is easiest for me to be: namely, myself. Thus I choose to be myself.

Overall the market doesn’t act too badly in the face of one or two days’ worth of weak action – this seems to argue for a continuation of the uptrend, particulary when Wednesday’s breakdown was accompanied and followed by strong buy points emerging in leading stocks at the same time, instead of a wholesale breakdown in leadership. It does not, however, mean we can’t have a 3-5% short-term correction to help further the deck-clearing process, and the key is to watch your stocks. My SLV and GLD “stocks” got slammed on Wednesday, which necessitates a re-thinking of my portfolio. On the other hand, if you own stocks like AAPL, PCLN, MNST, VPHM, RAX, ALXN, etc. then you are in good shape as long as your stocks continue to act well. Hopefully this puts my own actions into context, and frankly I like the action in a number of leaders over the past two days.

Low-volume pullbacks, pocket pivots, and fresh, new-high breakouts seem to be the dominant action in leading stocks across the board, and so it is simply a matter of going with the strongest leaders in the face of short-term market weakness. Usually I tend to make the most money in a bull market when it gets its “second wind” following a period of consolidation in the general market indexes and generally two to three months following the initial upside follow-through. So far the market doesn’t want to “rest” very much, but we are moving into a position where the market either tops, or it sets up for its second wind. For now I’m looking to play the second wind.

On an administrative note, I would like to let Gilmo members know that I will be presenting at the HighGrowthStock Investor Software annual conference in beautiful Palos Verdes Estates on Sunday, March 25th after the lunch break. HGSI, as I call it (www.highgrowthstock.com) puts on a great three-day conference teaching investors how to better utilize their stock charting and analytics software, which I consider a good value for investors on a modest budget. And I should note that I use HGSI in combination with my other programs, and I pay for it out of my own pocket – they provide nothing free to me. More details on the three-day conference can be found at: http://www.highgrowthstock.com/Seminars/seminars.htm. I also find HGSI Software’s “Big Kahuna” Ian Woodward’s perspective on the markets and leading stock as extremely refreshing and original, essentially creating something akin to “CAN SLIM® on steroids,” as one conference attendee described it last year. As always I am humbled by the fact that I am honored by the request to present my market views at this annual gathering of such a savvy and capable group as the HGSI user community, all strong investors and traders in their own right. Below is a sample of HGSI Software’s new “Pocket Pivot Chart View” which shows blue vertical lines that identify pocket pivot action within the chart, in this case for Monster Beverage (MNST), below. Dr. K and I worked with HGSI to create this useful charting tool, and we fully endorse it.

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Gil Morales

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

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.