“Learn as much as you can. Read and listen to experts, but keep a degree of healthy skepticism about everything.”
— Dr. Alexander Elder
We had been on the lookout for a selling climax, a day in which market participants capitulate by throwing in the towel en masse. Preferably, such a session will begin with a panic-driven gap open to the downside, followed by a morning reversal and close near the day’s high.
Wednesday was believed to be just such a day, based on a 33-basis point drop in the yield on 10s to 1.868% early on, a gap-down open in the Nasdaq Composite which turned into an afternoon reversal and close near the session high, the heaviest-volume Nasdaq day in 38 months (66% above average), the widest-range day on the S&P 500 in many months, and the New York Stock Exchange’s most-active day in almost three years (115% above average).
On Thursday and Friday, the share market did the expected, which is to rally after a capitulation session. Had the market done the unexpected and plummeted further on Thursday or Friday, we could have seen another 3%-5% minimum on the downside, as a guess. This would have placed the Naz 67%-75% of the way to a new bear market.
This could still happen. The market can do anything at any time.
As it is, the Nasdaq has been off as much as 10.7%, placing it firmly in the 8%-12% correction camp of which we often speak. The S&P has lost as much as 9.8%.
At this juncture, the averages can be expected to do one of two things. They will either rally and then return to the vicinity of Wednesday’s low to test that low or their rally will be strong enough to avoid a return to Wednesday’s low. If the latter, follow-through action can be watched for to increase confidence that the low is the low. A third scenario would be no rally and an immediate takeout of Wednesday’s low.
We would not read a thing into the declining Nasdaq and New York Stock Exchange volume of Thursday and Friday. When a market or stock falls sharply on heavy volume, particularly after a capitulation day like Wednesday, there is a vacuum of sellers. After all, it is the sellers that make the bottom, not the buyers. On the ensuing rally, then, the first few days most often result in dimming volume as the sellers have largely gotten their selling out of the way on the way down.
There were two substantial negatives in Friday’s session. First off was the early-afternoon selling which brought a number of leaders down to their session low, creating bearish tails. This occurred while the S&P was also selling off. However, when the S&P rallied during the final two hours of the session, growth leaders did not participate, for the most part.
Second, the Nasdaq closed below its open, unlike the S&P, as sellers emerged to exit positions on the morning strength. This corroborates the behavior seen in numerous individual leaders.
We have yet to see enough evidence to suggest that Wednesday’s Nasdaq low was the low. Specifically, the negatives include
As always, in spite of the general market’s health, we will list long setups or issues that might become long setups in due course, especially if follow-through action in one of the averages should occur this week.
Among the names, Alnylam Pharmaceuticals (ALNY) is obviously holding up very nicely amid this market downdraft. There are no earnings and flat revenue. Therefore, one must “trade off the chart” and only the chart. This is a 98 rs stock in a 99 rs group. The key day was last Monday, when price was up 19% on volume over five times normal. That same day the Nasdaq was off 1.36%.
While liquidity is good, risk is high due to the lack of earnings and dependence on new-drug development and the FDA approval process. The stock forms a cup-with-handle. The handle is only several days long and is more v-shaped than we like. We would need to see volume be strong on the breakout day above the handle high of 89.54 set 10/14.
Facebook (FB) is expected to release earnings later this month, thus we would not be interested in long exposure before then. Friday’s 4.6% rise on +124% volume is encouraging. The rs line is in new-high ground ahead of price, a plus. The stock is the best-positioned of the important liquid glamours.
Most analysts expect Pacira Pharmaceuticals (PCRX) to post earnings of 19 cents a share in ’14 and $2.58 a share in ’15. The last four quarters have shown triple-digit revenue growth. This is a 98 rs stock in a 99 rs group and the stock is under extreme accumulation. Price forms a nice, seven-week base and outperformed the S&P last week. Since earnings are expected out before the open on 10/30, we would abstain from taking a position here. Worth watching.
Repligen (RGEN) earnings are expected to decline 44% this year and grow 29% next year. Revenue flat-lines. This is a thinner issue that may not appeal to some speculators ($9.3MM average daily dollar volume). It definitely needs to put in more time as it has shown little accumulation as it rides up the right side of its cup.
Zoe’s Kitchen (ZOES) shows a nice increase in expected per-share EPS, moving from a 13-cent loss in ’13 to Street forecasts of three cents in ’14 and nine cents in ’15. Revenue growth has been in the 45%-54% range in the last four quarters, respectively. Price hovers just beneath the top of its multi-month base. This is a volatile actor. Ideally, the stock pulls back in order to keep everyone honest prior to any breakout attempt. Since earnings are expected out on 10/28 after the close, we would be watchers but not buyers in here.
Otonomy (OTIC) is a smaller issue, with just $502MM in market capitalization and $6.2MM in ADDV (average daily dollar volume). There are neither earnings nor revenue. This is a 98 rs stock in a 99 rs group. A 76% move in the first six weeks after its Aug. 13 IPO makes this one to monitor. We would be watchers, especially since OTIC’s earnings release is expected out late this month.
LDR Holding (LDRH) has no earnings but good revenue growth of 20%-31% in each of the last four quarters, respectively. The stock works on a seven-month, double-bottom base. The pattern’s midpoint of 28.48 was cleared four weeks ago, when price rose 7.0% on volume of +55%. It is constructive for a double-bottom’s midpoint to be cleared on above-average turnover along with a healthy price rise. We particularly like LDRH’s ability to march to the beat of its own drummer during the market correction. The rs line looks superb. It is under extreme accumulation. On Friday, price rose 5.4% on +146% volume. The earnings report is expected in early November. We would monitor the stock until then.
There is a lot to like in Alibaba Group (BABA). March ‘15/’16 estimates of 27%/30%; a high level of past earnings stability, let alone for a higher-growth story; extreme liquidity of $3.0B; and a near-double on its first day of trading four weeks ago. The stock forms its first base. Over the past fortnight, BABA has formed an expanding triangle, or megaphone, pattern. Earnings are expected in mid-November. While attractive entrance does not present itself, BABA should be monitored.
The names we are watching most closely are the same liquid glamours we have favored for some time: TWTR, FB, PANW, and BABA.
In summation, last week’s report said that “One can watch for the next test by either the Nasdaq or S&P. This means a rally must occur, followed by a return to the vicinity of the prior low. Follow-through action can also be looked for.” A low was put in last Wednesday. The market will either come back to test that low; continue higher without a return to Wednesday’s low, in which follow-through behavior can be watched for; or head lower immediately.
Long-side pattern setups are very few, and generally need more work before they can be taken seriously. The stocks listed above assume the averages provide evidence that a durable low is in. Such is not the case at present.
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