The Gilmo Report

October 14, 2018

October 13, 2018

The velocity with which the market and leading stocks have fallen this past week has been quite astounding. It is reminiscent of the action in early February, which featured the Dow Jones Industrials Index’s first-ever 1,000-point downside close. These days, however, a drop like that is only about 5%, nothing in comparison to the May 6, 2010 Flash Crash that saw the Dow decline about 10% on an intraday basis.

After slashing through its 50-dma on Wednesday, the Dow looked like it might hold its ground and rally on Thursday after undercutting its prior early-September low. That early rebound to the upside was short-lived and the index reversed, closing -2.13% to the downside as it broke below its 200-dma on heavy volume. However, the index did manage to undercut and rally back above its prior July and August lows on a closing basis.

This set up A volatile day on Friday where the index gapped above its 200-dma at the open, turned negative as it dropped back below the 200-dma, but then rallied again to close back above the 200-dma. When the dust had settled, the Dow closed just below its opening levels but ended up holding most of the initial gap-up opening move as it formed a bullish hammer on the daily candlestick chart, below.

 

GR101418-$INDU

 

The S&P 500 Index, which had also busted its 200-dma on Thursday, followed the Dow’s lead and pushed back above the line on Friday in a similarly volatile move with a long tail on the daily price bar. Volume was lighter on the NYSE relative to Thursday’s more capitulatory levels of selling. This may indicate that the need to sell had become obvious by that point, and the last of the near-term selling is out of the way, for now.

 

GR101418-$SPX

 

The NASDAQ Composite Index beat the S&P and the Dow to sub-200-dma territory by one day on Wednesday, and then churned to a lower low on Thursday as it undercut prior lows from late May and June. As I wrote on Wednesday, an undercut & rally move through the June 28th low would potentially signal the start of a reflex rally.

That’s what we saw on Friday as the index edged back above the 200-dma after undercutting and rally above the June 28th low on Thursday despite closing negative on the day. Like the NYSE-based indexes, the NASDAQ also put in a hammer formation but closed just below its 200-dma. From here, it’s difficult to say whether we’ve bottomed for good, or whether a 2-3-day (or longer) reaction rally is now in force before the indexes roll lower.

If that’s the case, then I would expect to see the NASDAQ quickly regain its 200-dma when trade opens again on Monday. Otherwise, for now, the 200-dma is serving as upside resistance for the tech-heavy index.

 

GR101418-$COMPQ

 

The small-cap Russell 2000 Index has been in a virtual death-dive throughout October after diverging slightly from its larger-cap brethren throughout September. It is now meeting up with its May 1st low but has yet to undercut that low. If any index is suffering from an extreme oversold condition, the Russell is.

This therefore brings up the possibility of a natural reflex rally back up toward the 200-dma. Things are so ugly at this juncture that it’s hard to imagine how they might get uglier, but I suppose that’s an option. All we know for sure is that the major indexes are attempting to stabilize along their 200-dma’s and prior summer lows, and the Russell is so far down that, as the old blues tune goes, everything looks like up from here.

 

GR101418-$RUT

 

The 10-Year Treasury Yield ($TNX) has backed off its recent highs following a lower-than-expected CPI number on Thursday. It ended the day on Friday at 3.141%, 10.7 basis points below the prior week’s intraday high. By Friday this retracement took some of the interest rate pressure off stocks, which were already deeply oversold.

 

GR101418-$TNX

 

None of this, however, seemed to help J.P. Morgan (JPM), which reported earnings before the open on Friday and gapped up at the bell. It then reversed course and closed in the red, marking a lower low following its prior late-stage, cup-with-handle, base-breakout failure. JPM and the weakness in financials overall is either an argument for lower interest rates to come, or a precursor to impending problems for the financials, whether of economic origination or otherwise.

JPM was last shortable along the 20-dema per my comments over a week ago. It has since dropped about 8% or so and would only become shortable again on a weak rally back up toward the 200-dma.

 

GR101418-JPM

 

A decline in interest rates and the U.S. Dollar from their recent peaks seemed to put a bid underneath gold. The SPDR Gold Shares (GLD) posted a big-volume, bottom-fishing, buyable gap-up (BFBGU) on Thursday and held its ground reasonably well on Friday. This took it back up above the 50-dma for the first time since early April.

The intraday low of Thursday’s BFBGU price range pegged at 114.09. Given Friday’s close at 115.23, just about 1% higher, the GLD is buyable here using the 114.09 low as a tight selling guide. Is this the low for gold? Who knows, but the current reality for the yellow metal is this strong move off the lows that can be tested on the long side here while keeping risk to a minimum.

 

GR101418-GLD

 

The move in gold did wonders for the mining stocks, almost all of which posted strong-volume moves on Thursday as well. I blogged early in the day on Thursday that Kirkland Lake Gold Ltd.  (KL) was posting a pocket pivot coming up through the 10-dma, 20-dema, and 50-dma just above the $20 price level.

Among other gold names that pulled similar maneuvers that day, I also like Agnico Eagle Mines (AEM) and Franco Nevada Corp. (FNV). KL seems to be the better option, however, given the big-volume pocket pivot along the 200-dma, ostensibly linked to quadruple-witching options expiration that day but which has held true as the stock has steadily moved up and off the 200-dma.

KL is extended in this position. A pullback toward the 50-dma would perhaps offer a lower-risk entry. Mostly, however, I find the move in gold and gold stocks interesting at a time when most pundits attribute the sell-off in stocks to higher interest rates to come from what the President refers to as the “crazy Fed.” Perhaps the market is hashing out a different story.

 

GR101418-KL

 

The carnage in big-stock NASDAQ tech names has been brutal. The en masse breakdown in NASDAQ 100 Index type stocks has also made my 620-method for trading the ProShares UltraPro Short QQQ ETF (SQQQ) quite profitable over the past several trading days. In addition, using the 620-method to trade the VIX via the ProShares Ultra VIX Short-Term Futures ETF (UVXY) was also quite profitable. Since flashing a 620-buy signal seven trading days ago, the UVXY had a nice 50% spike to the upside before topping out around 62 on Thursday.

The big move in the SQQQ shows up as a broad series of breakdowns in formerly leading big-stock NASDAQ tech names, such as Nvidia (NVDA). Over a week ago I indicated that a breach of the 20-dema by the stock would trigger it as a short-sale. That quickly sent the stock below the 50-dma, where it ran into resistance on Tuesday before splitting wide open on Wednesday and closing below the 200-dma.

At that point you will notice that NVDA was undercutting a significant low from around mid-August, triggering a small U&R type of response at that point on Thursday (off the intraday lows) and on Friday. The stock closed just below the 200-dma on Friday, so that still serves as near-term resistance.

However, as a possible reaction rally type of trade, one could look for a move back up through the 200-dma as confirmation of the U&R long set-up now occurring along the 238.72 low of August 20th. NVDA closed Friday about 3% above that low, but it may be possible to play a reaction rally trade (assuming it were to occur) on a move back up through the 200-dma and then using that as a tight selling guide if it doesn’t hold.

 

GR101418-NVDA

 

One might notice that the U&R in NVDA at the end of the week coincides with the NASDAQ pulling a similar U&R at its prior summer lows, as I discussed near the outset of this report. Similar action is seen in Amazon.com (AMZN) as it undercuts the late-July low and rallies back above it after a roughly 20% drop off the peak.

That prior low of July 31st printed at 1739.32, and AMZN cleared to a low of 1685.10 on Thursday before rallying back to the upside, but it closed at 1719.36, so it did not trigger a U&R on Thursday. That didn’t happen until Friday when the stock gapped up to 1808 at the open, and then traded back to the downside before stabilizing and closing at 1788.61.

Therefore, as a U&R long set-up, this was not cut-and-dried by any stretch of the imagination, and anyone buying the gap-up at the open on Friday would have ended the day slightly under water on the trade. My preference for trading U&Rs is to be able to enter the trade as the stock is moving back up through the prior reference low. In this case, however, AMZN gapped up through the prior low at the open the next day. This created an entry much higher above the prior reference low and thus was too risky to execute at that point.

 

GR101418-AMZN

 

Netflix (NFLX) was last shortable on the weak rally up into the 50-dma on Tuesday. This came after the initial short-entry trigger at the 10-dma two Thursdays ago and the ensuing breach of the 20-dema. Notice how the weak rally into the 50-dma occurred on a small U&R move along the prior mid-September low at 349.57.

But that move did not last very long and was more in line with the traditional way of using U&Rs to cover short positions and then look to re-enter the short on an ensuing weak bounce. That’s how NFLX worked out on that U&R, reversing hard on Wednesday and moving below the 200-dma from there.

That led to an undercut of yet another low in the pattern, the 335.83 low of September 5th. NFLX closed at 339.56 on Friday, a little over 1% above the prior low, so a near-term U&R is in effect for the stock, at least for now. Whether this just carries as far as the 50-dma before the stock becomes shortable again, or whether it results in a glorious move to new highs and a new upside leg (perhaps this is a bit too optimistic!) remains to be seen.

 

GR101418-NFLX

 

Here’s Apple (AAPL) on a U&R move back up through the prior 215.30 low of mid-September. Note that it closed below that low on Thursday after briefly rallying into the 50-dma and then reversing. This would have made it shortable at the 50-dma on an intraday basis as the stock closed at roughly the same lower low as it opened at.

But on Friday AAPL gapped up with the rest of the market to print 220.42 at the open, dropped back below the 50-dma on an intraday basis, but then regained the line to close at 222.11. Technically, the intraday low of 216.84 would have brought it into buying range of the 215.30 reference low, although in my view it might have felt a little bit like a crap shoot at that time.

 

GR101418-AAPL

 

Square (SQ) broke over 30% below its initial short-sale entry along the $100 Century Mark by the time it closed on Thursday. More than 2/3rds of that break occurred after it breached the 20-dema, triggering a short-sale entry based on my LSA-method. If anything, the stock provides a stark example of how stocks you think are bullet-proof as analysts put $115 and $125 price targets on the stock after it has had a massive price run sometimes aren’t.

Anyone feeling giddy with the stock as it pressed up against the $100 price level probably should have checked themselves at that point. At the very least, the breach of the 50-dma on Wednesday would have been your final selling guide. Although for my money the 20-dema keeps things tighter while at the same time giving short-sellers something to shoot at based on my new LSA-method for shorting leading stocks near their highs.

Traditionally, leading stocks don’t become shortable until after the first break off the peak. And, according to the methods detailed in my first book on shorting, How to Make Money Selling Stocks Short, which I co-authored with and ghost-wrote for Bill O’Neil back in 2004, one must wait 4-12 weeks after this initial break off the absolute peak before the stock ripens enough to short. But as early as my last book on shorting, Short-Selling with the O’Neil Disciples, which was published in 2015, I was already recognizing that there might be ways to short stocks a lot earlier and just as they were rolling off their all-time highs.

SQ is a fine example of the culmination of my latest work and research on the short side. But I must admit, even I am surprised at how badly this thing split wide open following the breach of the 20-dema. At this point, I don’t even see a reason to try and buy the thing, although it could rally back up into its 50-dma from here after undercutting some lows in the pattern from early August.

 

GR101418-SQ

 

Another hot stock that had every other analyst on the street putting big price targets on it after it was already well extended to the upside, but which has now split wide open, is Roku (ROKU). Here we see the stock breaking below its late-August low on Thursday and then gapping back up through it on Friday. Anyone who bought that gap didn’t make much money, since the stock roughly closed where it opened.

ROKU also stalled on the approach toward the 50-dma, but I would watch for any further rally up into the 50-dma as a possible short-sale entry opportunity. ROKU is something of a Punchbowl of Death (POD) type of short-sale set-up, and the first sign of trouble with these types of POD set-ups is an initial breach of the 20-dema.

Using my LSA-method and considering the extent of the stock’s price run and P/E expansion, one could have also shorted the stock on the breach of the 20-dema two Thursdays ago. That was probably the most optimal short-sale entry point off the peak, and the stock is currently in no-man’s land on the daily chart.

 

GR101418-ROKU

 

On the weekly chart the story looks a bit different. ROKU appears to be trying to hold weekly support at the prior cup-with-handle breakout point and the top of the overall cup or punchbowl type of base structure. Weekly volume was higher this past week as the stock closed about mid-range, which argues for weekly supporting action.

Thus, I might expect a rally back up toward the 50-dma/10-wma from here, but this will likely depend on what the general market does in the coming days and weeks.

 

GR101418-ROKU Weekly

 

My short-sale targets among the industrials, such as the rails Norfolk Southern (NSC) and CSX Corp. (CSX), have been sliced and diced over the past few days as they sit in no-man’s land. Meanwhile, big-stock industrial Caterpillar (CAT) is now living below its 50-dma after triggering as a short-sale on Tuesday when it breached the 20-dema and the 200-dma. On Friday, the stock attempted to rally back through the 50-dma but fell short, closing mid-range on the day on above-average volume.

So, for now, the 50-dma serves as resistance and a reference point for a potential lower-risk short entry from here. However, the stock has broken hard to the downside over the past eight trading days and may be able to regain the 50-dma and rally as far as the 20-dema if we see the major indexes continue the reaction rally they started on Friday.

 

GR101418-CAT

 

In my search for constructive bases as the market was coming undone on Thursday, one area of the market jumped out at me. As I noted in a blog post early on Thursday, even as the market was heading for another round of downside carnage. I was seeing constructive action in, of all places, the cannabis sector, or as we might now affectionately refer to it, the “weed patch,” a variation on the term “oil patch” that is used for oil stocks.

I mentioned three of my favorite names in the group, and we can start with the smallest of them by price, Cronos (CRON). As with all three of these names that I’m going to discuss in this report, CRON is a Canadian producer and supplier of cannabis, and this Wednesday the country of Canada is going to make recreational cannabis use legal.

In advance of this known news, CRON had a big move during the summer and has since backed down to its 50-dma. Wednesday, a day when the major market indexes were getting slammed, the stock posted a bottom-fishing pocket pivot at the 50-dma. On Thursday, as the indexes floundered again, CRON pulled back slightly as volume dried up sharply, prompting my blog post.

In this position, the stock is buyable using Thursday’s low as a selling guide. We can also investigate the weekly chart to see that this latest nearly month-long pullback has brought the stock right back to the top of a prior eight-month base structure from which it broke out in the latter part of August. On a weekly basis, this looks constructive.

 

GR101418-CRON

 

The second stock discussed in my Thursday blog post was Canopy Growth Corp. (CGC), which also had a big move in the latter part of August. That has led to the formation of a relatively tight flag formation with the daily action tightening up around the confluence of the 10-dma and 20-dema. On Friday, CGC was on track to post a possible pocket pivot at the two moving averages early in the day, but volume petered out.

Thus, CGC only closed above the lines on increased volume that did not qualify as a five-day or a ten-day pocket pivot. But volume has been drying up and buying here would simply bring the 10-dma/20-dema confluence into play as a tight selling guide.

 

GR101418-CGC

 

CGC’s weekly chart reveals a breakout in mid-August from an eight-month base structure, followed by a five-week flag formation that has formed throughout September and early October. Standard-issue base breakout buyers might wait for a move above the highs of this current flag structure, but I would be more inclined to take advantage of the tight action along the 10-dma and 20-dema on the daily chart as an earlier entry.

 

GR101418-CGC Weekly

 

The one name in the group that conjured up images of Bitcoin 2.0 as the frenzy and froth got out of control in mid-September was Tilray (TLRY). Short-term this was a climax top, although not of the standard O’Neil variety since the stock did not have a long prior price run. It was more like the crazy moves we saw in the hot crypto-mining stocks like Riot Blockchain (RIOT) late last year.

I noted the extreme low-volume voodoo-type action along the 20-dema in TLRY on Thursday in my blog post. That provided a lower-risk entry opportunity right there, and the stock moved 12% higher and above its 10-dma on Friday. Not bad for a day’s work.

 

GR101418-TLRY

 

On the weekly chart we can see that despite the short-term climactic move, TLRY has in fact closed up every single week since breaking out from its short IPO base back in August. That adds up to nine up weeks in a row, and now the stock looks to be forming a tight flag formation here with tight closes around the $145 price level.

 

GR101418-TLRY Weekly

 

So, are the cannabis names just Bitcoin 2.0? A mad, speculative frenzy that is about to fall flat on its face? My initial impression following the climactic move in TLRY was that this was likely the case, but the ensuing technical action as things have settled down leads me to draw a different conclusion. Ultimately, all stocks are just stocks to me, and the final arbiter of their worthiness as trading or investment vehicles is found in the charts. Currently, these charts look very interesting, and both TLRY and CRON had decent moves after my Thursday blog post, so it is simply a matter of playing them as they lie.

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). In all cases I will mostly use the shorthand version of “10-dma,” “50-dma,” etc.

The sudden, en masse breakdowns we’ve seen in so many leading stocks over the past week or so does not appear to bode well for the general market. But if we compare this latest breakdown to those seen earlier this year in February and March, they are all a similar magnitude, so far. We can see this on the weekly chart of the NASDAQ Composite Index, below.

 

GR101418-$COMPQ Weekly

 

My best guess at this juncture is that the extremely fat part of the short-side play has come and gone, so pressing the short side at this stage is not advisable. We may see some broken-down names rally into areas of potential resistance, at which point they may become shortable again. The flip side is that the market and many of these names find their feet and start to set up again along their lows, most likely with U&R types of set-ups.

Currently, the entire situation is in a state of flux. Of course, that doesn’t prevent me from finding areas of constructive action that might be playable in coherent fashion on the long side of an otherwise floundering general market. My Thursday blog post on the weed patch certainly helps to make this point.

Aside from this area of the market, we’re mostly in a wait-and-see position as we look for possible U&R moves to develop in broken-down leaders. The situation remains fluid, and so one should remain alert and open to whatever technical evidence the market throws in our face. The time to be steadfastly bearish has come and gone, and so I would not take a rigidly bearish stance at this stage of the game.

That said, I’m not seeing a whole lot of stocks that get my blood boiling on the long side, but things can change and develop in the coming days. It would certainly provide a bit of irony to this market if it were the cannabis names that suddenly emerged as the new leadership that takes this market (forgive the pun) higher. But, stranger things have happened, and after nearly 28 years in the markets I’ve reached the level of experience where I’ve seen most, if not all, of it. As always, play ‘em as they lie!

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