The Gilmo Report

March 6, 2011

March 6, 2011

In my Wednesday report I made a tongue-in-cheek observation that if one believes in the “eternal life” of QE2, then one should be buying the (bleep) out of the market. The next day my tongue-in-cheek remark became a truism for this market as the indexes rocketed on expanding volume for what was clear follow-through-day (FTD) price/volume action. Interestingly, our favorite financial newspaper claimed that volume on the NASDAQ was lower, but I have found several chart sources, including the well-regarded StockCharts.com site from which I show a daily chart of the NASDAQ below, that show volume higher for the NASDAQ on Thursday, which would qualify its move on that day as FTD-type action as well. S&P volume was higher in all sources, so it did have an FTD-type day on Thursday. What this means, however, is not so clear, as I find this market to be not so much a bull or a bear, but more like a kangaroo as it hops around over the past six weeks. So welcome to the Great Kangaroo Market of 2011! Friday’s jobs number, despite showing a decline in “unemployment” to 8.9%, failed to spark any excitement as the indexes started out the day on a nice downside blitz before finding a low around mid-day and closing mid-range for the day. Volume was lower on Friday, so it almost looked like a normal consolidation of Thursday’s sharp gains.

NASDAQ Gilmo Report Chart

With the market hopping around in such a manner, finding strong trends one way or the other is a tough order to fill. But they are out there, and while I tend to think this market can be played as a “market of stocks” rather than a stock market, it is still probably prudent to tread lightly here. The best trade over the past three weeks as the market has wobbled has been silver. I should also note that the oil ETF, the USO (not shown), is just barely breaking out of a long, two-year consolidation and I do think that the USO can be bought with the idea that it should hold the 39-40 price level at the breakout, but silver is early 2011’s version of a “rocket stock” as it blasted higher this week. In my Wednesday report, I noted that any pullback toward the 10-day moving average would likely be your next add spot for the iShares Silver Trust (SLV) or its two-times leveraged cousin, the AGQ, shown below on a daily chart. On Thursday, silver did exactly that, pulling back towards its 10-day line before launching higher with authority on Friday. For now, this trend is very powerful and based on its thrust my best guess is that silver clears $40 before we see a meaningful pullback.

AGQ Gilmo Report Chart

Trying to determine in my Wednesday report of this past week what I might like to buy if the market did begin a concerted move to the upside, my only real “pick” was Netflix, Inc. (NFLX), shown below on a daily chart. As I discussed in that report, NFLX might be worth buying if the market starts to rally, and on the heels of Thursday’s big upside move and FTD-like action, NFLX finally did spring to life on Friday morning following three nervous days of testing its 50-day moving average before pushing higher on the day with volume running above-average. With Whitney “I’m Smarter Than the Market” Tilson finally biting the bullet and covering his hedge fund’s short position in NFLX, is this a final contrarian topping sign for the stock? In my view, NFLX is going to have to violate and break down through its 50-day moving average to confirm this theory, and so far that isn’t happening. Friday’s bounce occurred on above-average volume, and for now if you bought NFLX at the 50-day per my discussion on Wednesday, it is fine as long as it holds the 50-day line.

Netflix, Inc. (NFLX) Gilmo Report Chart

Chart courtesy of HighGrowthStock Investors (www.highgrowthstock.com), ©2011 used by permission.

The waves of selling that have hit the market over the past couple of weeks do have one positive aspect to them, and that is that they enable you to easily discern those stocks that buck the general market’s pressure and hold up very well. One such stock is mid-cap optical network player JDS Uniphase (JDSU) which flashed a pocket pivot on Friday, as we see on the daily chart below. This comes as a secondary buy point to the original buyable gap-up that we saw in the stock in early February after it announced earnings. I like JDSU here as it flashes this pocket pivot as well as a standard, flag
breakout off the 20-day moving average. JDSU is into all kinds of futuristic stuff, from “gesture recognition” to “concentrated” photovoltaics to next-generation 100G broadband networks, and its forays into emerging markets will likely provide a base for strong growth going forward. The stock is a clear earnings turnaround with big growth in the most recent quarrter and strong estimates over the next two. This pocket pivot and flag
breakout is potentially buyable with the idea that the stock should hold the 20-day moving average at around 25.05.

JDS Uniphase (JDSU) Gilmo Report Chart

Chart courtesy of HighGrowthStock Investors (www.highgrowthstock.com), ©2011 used by permission.

One area that has stood out during this recent bout of heavy-volume selling in this market has been mid-cap technology. CMOS (complimentary metal-oxide semiconductor) optical device maker Omnivision Technologies (OVTI) with a $1.86 billion market cap just barely makes the grade, and is showing some huge earnings numbers both in recent quarters and for the next two quarters, according to the estimates shown in the data portion of the weekly chart below. OVTI is showing two weeks of huge upside volume as it has broken out of a double-bottom base. The breakdown in OVTI below its 40-week (200-day) moving average is curious given the company’s strong fundamentals, but was likely caused by some discussion of a “substantial” loss of market share in China. Objectively, whatever the news, these two huge upside-volume bars as the stock breaks out to new highs constitute a massive “shakeout and breakout” that could set up further upside in the stock. A pullback from here could test the 30-31 price level, but I would look for the stock to at least try and hold this breakout above the $33 price level.

Omnivision Technologies (OVTI) Gilmo Report Chart

Chart courtesy of HighGrowthStock Investors (www.highgrowthstock.com), ©2011 used by permission.

I have been positive on Fortinet, Inc. (FTNT) for some time now, but the stock has done its best to shake investors out as it tracks along its 10-day moving average. FTNT, as we see on its daily chart below, flashed a pocket pivot on Thursday, and to some extent I think the daily chart of FTNT is starting to tell a story here. It may be a story worth listening to, even if the shakes in the stock end up shaking you out and forcing you to buy the stock back at higher prices. Overall FTNT has been sloping slightly upward since its big-volume breakout on earnings in late January. As the market has run into trouble in recent weeks FTNT has had a couple of quick little shakeouts, but each time has recovered back above the 10-day line very quickly. This is constructive, and with the shakeouts serving to blow out weaker hands in the stock, I think it could be setting up for a sharp upside move here that takes the stock above the $45 price level. This latest pocket pivot took the stock to all-time highs, which is the type of strength I’m looking for in a general market that is “under pressure.”

Fortinet, Inc. (FTNT) Gilmo Report Chart

Chart courtesy of HighGrowthStock Investors (www.highgrowthstock.com), ©2011 used by permission.

Staying with the theme of mid-cap technology, another stock that is holding up in the midst of general market mayhem is Cavium Networks, Inc. (CAVM), which I last discussed in my report of February 22nd. As with OVTI, above, the weekly chart gives a little clearer picture here. CAVM looks to be working on a two-week handle in what is so far a very short seven-week cup-with-hande type of base. Note that last week the stock pulled down below its 10-week (50-day) moving average but volume picked up as the stock closed near the peak of the weekly range – a clear sign of support. Over the past five weeks, four of the weekly closes have been relatively tight, which gives the impression of accumulation at these price levels and below. Over the past four weeks, each time CAVM has pulled down it has managed to close well in the upper part of its weekly trading range. Earnings and sales growth, as well as forward estimates, remain strong for CAVM, a fabless semiconductor stock with a “cloud” orientation. If the market is able to find its feet and move higher, I think you may very well see CAVM break out soon, and at the very least I would watch for a possible pocket pivot to show up first, if it isn’t also an outright breakout.

Cavium Networks, Inc. (CAVM) Gilmo Report Chart

Chart courtesy of HighGrowthStock Investors (www.highgrowthstock.com), ©2011 used by permission.

Open Text Corp. (OTEX) is another interesting mid-cap tech play that is holding up very well in the face of general market sell-offs over the past several weeks. OTEX staged a buyable gap-up move in early February, as you see on the daily chart below, and despite a little bit of “porosity” (e.g., price dips below) through the intra-day low of that gap-up day which is accounted for by the stock’s smaller size and volatility, it has held up very well in what is so far a four-week base or flag formation. Note that the stock had a nice, but very, very subtle pocket pivot buy point within the base on Thursday of this past week, which could be presaging a potential breakout from this four-week flag. OTEX is a leader in what is called “Enterprise Content Management,” basically software that helps organizations manage the content shared, stored, and distributed on their intranet systems, and while earnings growth is strong, sales growth is somewhat tepid. Nevertheless, I like this based more on its technical strength as it holds in a tight four-week flag, which may be telling you more than the numbers themselves. Thursday’s pocket pivot remains buyable with a 7% stop.

Open Text Corp. (OTEX) Gilmo Report Chart

Chart courtesy of HighGrowthStock Investors (www.highgrowthstock.com), ©2011 used by permission.

In my February 20th report I noted that coal stocks like Walter Energy (WLT), not shown, and Arch Coal, Inc. (ACI), shown below on a weekly chart, had been hit with some selling even as their energy-related brethren, oil stocks, were moving higher. I did also point out that despite the selling in these stocks they were probably just going about the business of building bases, and, in the case of ACI, that appears to have been the case as the stock broke out of an eight-week base on Friday. Note that on the weekly chart below ACI had five weeks of very tight weekly closes, as I’ve circled on the chart. ACI has had three quarters of a sharp earnings and sales turnaround, and forward estimates argue for a continuation of that trend. With oil prices bringing renewed focus on energy, coal should benefit, and demand for coal from emerging economies remains very high. While ACI’s breakout puts it ahead of WLT, which is still working on a base, I would still keep an eye on WLT as I might expect that it will soon follow in ACI’s footsteps if ACI’s breakout continues to work.

Arch Coal, Inc. (ACI), Gilmo Report Chart

Chart courtesy of HighGrowthStock Investors (www.highgrowthstock.com), ©2011 used by permission.

Gilmo Report members frequently ask me about Chipotle Mexican Grill (CMG), which recently broke out but allegedly violated the 8% sell rule as it flipped back down to its 50-day moving average, as we see on its daily chart below. If you study the chart carefully, you will first note that the best place to buy CMG was on the pocket pivot move up through the 50-day moving average (blue line) in early February, exactly 21 trading days ago. CMG then broke out on earnings in wild, volatile after-hours and intra-day trading on February 11th. That whole move from the pocket pivot might have been a bit steep, and note how the drop back down to the 50-day moving average finished off on high volume but the stock closed in the upper part of its daily trading range – subtle supporting action. The stock then retests the 50-day line over the next five days but selling volume dries up in the extreme. Volume then picks up again over the past three days and the stock moves up off of the 50-day line. This looks like a successful test of the 50-day moving average to me, and I have to wonder whether CMG won’t do the old “fakeout and re-breakout” maneuver here.

Chipotle Mexican Grill (CMG), Gilmo Report Chart

Chart courtesy of HighGrowthStock Investors (www.highgrowthstock.com), ©2011 used by permission.

Whether you want to call it a “Kangaroo” market, a “market of stocks,” or just plain difficult, this market remains in a bit of a flux. Is this a rolling top or just some volatile correction that will simply set the market up for higher-highs again? In my view the solution is to tread lightly and opportunistically. If the market turns higher the strongest-acting stocks will likely lead the charge, and so this is where I want to focus my buying. On the short side, my discussion of the three “big stock” cloud plays, CRM, VMW, and FFIV as short-sale targets remains in force, so members should review my Wednesday report for my discussion of those stocks, including short-sale target zones. I would point out, however, that the short side of this market is far from being fully- or even mostly-developed, so again tread lightly here, and only go on an aggressive short-side attack if the general market breaks down further. This is a tricky environment, so expect that the market will do what it does best, which is fool the greatest number of investors most of the time. Stay tuned.

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 positions in AGQ, JDSU, NFLX, and OVTI, 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.