The Gilmo Report

September 18, 2011

September 18, 2011

 

A slew of weak economic data on Thursday morning looked to hamper the markets before a headline crossed indicating that the European Central Bank will be “coordinating” with the Federal Reserve to provide funding for European banks as they try to apply the usual band-aid to the European sovereign debt problem. Basically, the Fed will now print dollars in order to enable the Europeans to buy up public debt. Thus another keg of QE is being tapped and this news kept the market’s rally alive as all the major indexes, including the NASDAQ Composite Index, shown below on a daily chart, were up every day of this week, quite an achievement in the face of so much negative news. On Friday the NASDAQ cleared resistance at around the 2611 level and the 50-day moving average. The grinding upside move this week had the feel of QE behind it as every intra-day sell-off in the market during the week found a bid at some intra-day level and turned the market back to the upside. With QE rearing its head again, one has to wonder if the market is going to pull off another relentless “floater rally” like we saw in late June on the chart below. If it is, then money is most likely going to flow into the biggest stocks, so that would be my main area of focus on the long side if this rally continues to hold up.

NASDAQ Composite Index Gilmo Report Chart

The NASDAQ Composite, however, is the shining index in this latest “Chop Zone” rally, and it is being pushed along by NASDAQ 100 stocks like Apple, Inc. (AAPL) and Amazon.com (AMZN). New lows outnumbered new highs on Friday, so the underlying strength in the broader market is tepid at best. This is illustrated by the lagging movement of the S&P 500 Index, shown below on a daily chart, as it remains below its prior peak of three weeks ago and the 50-day moving average. While I don’t show charts of these indexes here, the New York Composite Index and the Russell 2000 Index, both much broader measures of the market, are lagging even more severely. Each of those indexes has rallied far less up off the lows of five days ago and on Friday each was up .26% and .11%, respectively, as the broader market lagged the performance of the NASDAQ and big-cap NASDAQ 100 stocks. Thus I tend to see the NASDAQ’s move above 2611, which I was using as a stop for an SQQQ position, as somewhat exaggerated, so one could allow another 1% on the upside before closing out any SQQQ or QID positions. I myself chose another option based on the relative weakness of the various indexes, switching to the 3-times leveraged inverse Russell 2000 Index, the TZA.

S&P 500 Index Gilmo Report Chart

Last week featured the expiration of extremely high levels of open interest in index options, and Friday’s big-volume options expiration day capped off three days of volatile intra-day action in the indexes going into the end of the week. Another factor working in favor of the rally is a high level of bearish sentiment. The Investor’s Intelligence Survey of Investment Advisers shows that bearish investment advisers have exceeded bullish investment advisers, which generally does lead to a rally when it occurs. What I find more interesting in terms of sentiment is the National Association of Active Managers survey of 40 member firms,the results of which are shown below in the chart below (©2011 DecisionPoint.com, used by permission). The green bars indicate what percentage invested in the market each of the 40 members firms is as of the latest survey date. We can see that currently they are on average 25.78% invested, and that they have been invested this much or less for the past five weeks. Thus it does not appear that active managers have bought into this rally off the August lows. So do they know something or will they will be forced to buy into the rally given their underinvested positioin and thus continue to keep a bid in this market? This could all still ultimately turn out to be a rally within a correction as the market continues to operate within the “Chop Zone.” So my approach shifts a little here as a I choose to go long strong stocks and short the weak animals in the herd, playing the market not as a stock market, but as a market of stocks.

National Association of Active Managers survey  Gilmo Report Chart

If Euro-QE is now in the cards, we might ask why gold sold off on Thursday, but the short answer might be found in news that central banks have been leasing gold in exchange for dollars, putting downside pressure on gold in the short-term. While many see gold forming a “double-top,” I tend to think this is a bit too obvious, as I see the yellow metal, and silver as well for that matter, as simply building consolidations of unknown duration. As we see on the daily chart of the SPDR Gold Shares (GLD), below, it is holding well above the lows of late August as selling volume continues to dry up. Most technicians believe that a breach of the 1703 August low in gold will result in further downside to at least 1600, but with such a concensus I might look for such a “breach” to serve as an undercut and shakeout. Ultimately, the 50-day moving average is the primary selling guide for the GLD, and as yet there has been no violation of that key moving average. GLD and SLV remain holds for now.

 

SPDR Gold Shares (GLD) Gilmo Report Chart

More fiat money-printing is nothing less than bullish for precious metals over the long-term, and so it is very hard for me to find a fundamental reason for gold and silver to sell off hard from current levels. Both of the metals tend to be somewhat volatile, so as they work their way through their respective consolidations holders of the GLD and the SLV must expect to sit through some volatility. The SLV, shown below on a daily chart, attempted to breach its 50-day moving average this past week but as it has done previously since breaking out through the 50-day moving average in July, the SLV held the 50-day line, keeping its consolidaton intact. Some ask whether this is a “late-stage” base in silver, but the concept of “late-stage” bases is something that applies to stocks as it relates to institutions that become saturated with a stock and other basic business concepts like product cycles. Silver and gold have no product cycle, and investors at large still remain relatively lightly weighted in precious metals. Bottom line: They remain in a bull trend.

SLV Gilmo Report Chart

The big story of the week was Netflix, Inc.’s (NFLX) announcement of declining subscribership on Thursday, which sent the stock gapping down through the neckline of its head and shoulders top formation, shown below on a daily chart. More than a few “smart guys” were trying to short NFLX on the way, including high-profile graduates of the University of I-Am-Smarter-Than-The-Market like hedge fund manager Whitney Tilson who officially threw in the towel on his NFLX shorts on February 10, 2011. His primary mistake was in not understanding that you cannot short a stock in an uptrend, regardless of how well you think you have the fundamentals figured out. Price/volume action tells all, and the time to start thinking about shorting NFLX was not then but now, on this “breakout” to the downside extending from a proper topping formation. On this type of gap-down through the neckline, which is running through approximately the 190 price level, it was possible to go short NFLX around the opening on Thursday in the 180 price area or better, using the intra-day high of 185.40 as your upside stop. NFLX continued lower on Friday on very heavy volume, and at this point it would only be shortable on any move back up towards the neckline. But longer-term, the view here is that NFLX is cooked and will head much lower from here.

Netflix, Inc.'s (NFLX) Gilmo Report Chart

NFLX’s fall provided fodder for rallies in both Apple, Inc. (AAPL) and Amazon.com (AMZN). Both companies are considered to be potential stalkers of NFLX’s wavering market share given their own strong distribution channels, and hence constitute formidable competitors. AAPL made me eat my words from my Wednesday report by just clearing the $400 price level on Friday on above-average volume after I had dared the stock to clear its Wednesday high of 392.21. Is the market finally going to see AAPL as the value stock of the New Millenium given that it sells at a mere 12 times forward earnings? If investors suddenly decided to assign AAPL a “normal” forward P/E of 20 it would be selling at $640. But all we know for sure is that the stock had a breakway gap on above-average volume and so I would look for it to hold the top of this range breakout at around 390-393 and perhaps move up further through the $400 price level. If it fails to hold the $400 price level then that could spell trouble, but for now I am going to play this as it lies. The last time AAPL made a run at the $400 price level it was breaking out of a base and was up 12 out of 15 days in a row or better, an initial sign of power and thrust, and now we have the stock staging an “ants
breakout” on above-average volume. To me this is a no-brainer with relatively light risk. Consider buying it here using a 7% stop, or the 390 level if you want to keep things tighter.

Apple, Inc. (AAPL) Gilmo Report Chart

The other perceived beneficiary of NFLX’s demise is Amazon.com (AMZN), shown below on a weekly chart, and the stock had a very strong move on Friday. However, I would have a hard time buying AMZN given two big factors: 1) two quarters of negative earnings growth and 2) a narrow, v-shaped cup-with-hande base with a two-week wedging “handle.” AMZN benefits from the coming introduction of their iPad-rivaling, new Kindle tablet and the demise of NFLX. This is an interesting twist on the NFLX situation as it relates to AMZN. AMZN provides “cloud” services with its AWS where companies can access space on AMZN’s server farm in order to create a cloud-based network infrastructure and cut costs. NFLX, ironically, is AMZN’s biggest AWS customer as it uses the flexibility of “renting” capacity on AMZN’s network based on the real-time needs of its streaming movie service. AMZN needs to build a better base before I would be interested in buying the stock on this breakout.

Amazon.com (AMZN) Gilmo Report Chart

If I were in dire need of having to go long this market, buy ideas tend to be far and few between. I note that Hansen Natural Corp. (HANS), not shown, flashed a continuation pocket pivot on Friday while MasterCard (MA) flashed a pocket pivot on Thursday of this past week, as we see on its daily chart, below. These are two of the three stocks I noted as the only things I might be interested in buying in my August 28th report. All three are higher than they were then, and I note also that Visa, Inc. (V), not shown, is trying to break out of a shallow cup-like base, so the two “plastic money” companies are both acting well in tandem, with MA being the stronger of the two. MA is flashing this pocket pivot within this ascending but very choppy pattern. Given prior behavior, it almost appears smarter to try and buy MA off the 50-day line. But if the market is going to continue to rally, then MA should at least hold above Friday’s low at around the 339 price level.

MasterCard (MA) Gilmo Report Chart

Another buyable pocket pivot is seen in Wynn Resorts Ltd. (WYNN) on the daily chart below as the stock has been flashing stronger upside volume relative to selling volume as it tries to hold the 50-day moving average. On the weekly chart, not shown, WYNN has had a couple of tight closes along the 10-week/50-day line, and Friday’s pocket pivot coming on the heels of Monday’s pocket pivot gives WYNN a very reasonable probability of moving higher if the general market doesn’t get into any downside trouble. The question then becomes, as with any other long idea in a market rally that may or may not last, how to limit downside risk. If I’m going to mess around on the long side I prefer to choose stocks in positions within their chart patterns where I have ready references for near downside stops. In this case. The low on Thursday along the 65-day exponential moving average at around 145 provides a very quick 5% stop should WYNN fail. WYNN is also a big-stock NASDAQ name, so it meets my requirements in that regard, and I want to have a few long ideas in my quiver in order to maintain a balanced psychology and to be ready for anything.

Wynn Resorts Ltd. (WYNN) Gilmo Report Chart

The market’s rally over the past few days, if not necessarily making life easy for shorts, does however help to identify the weaker stocks in the market. I would expect that if the market’s rally were to fail, weak stocks like OpenTable, Inc. (OPEN), and NFLX for that matter, would be susceptible to further downside. Currently I’m using the 10-day moving average at around 56.81 as my trailing stop on the upside. OPEN has “broken out” to new lows, but I note that the stock is riding within this descending price channel. In my view the odds are that it will eventually break down through the lows of this channel, particularly given its weak performance relative to the general market over the past week. The NASDAQ had its biggest one-week rally since July of 2009, but OPEN finished the week pretty much flat. It remains a primary short-sale target with a close stop-out at the 56.81 price level. OPEN’s relative strength line, not shown on the chart, continues to make new lows, and this is often a harbinger of further lows for the stock.

OpenTable, Inc. (OPEN) Gilmo Report Chart

Retail stocks have all been rallying up within their patterns, and all but one of the retail stocks I was looking at as shortable on rallies up into their 50-day or 200-day moving averages would have been stopped out on the upside earlier this week. The only one on my list that remains underneath its 50-day moving average is Fossil, Inc. (FOSL), but it is also coming from the weakest position as it continues to build what may be a right shoulder in a continuing head and shoulders topping formation. So far the area around the 65-day exponential line has continued to serve as resistance, as we see on the daily chart, so I tend to think this one is still “stalkable” on the short side. As long as the stock remains below the peak of the left shoulder in the pattern at around 106-108 then the pattern remains weak – I tend not to want to try and short stocks building H&S patterns where it rallies above the peak of the left shoulder as I want to see the right shoulder forming below the left shoulder as the most optimal H&S type of set-up to short if the current rally fails.

Fossil, Inc. (FOSL) Gilmo Report Chart

With new lows exceeding new highs and leadership spotty, I don’t think it is possible to get aggressive on the long side, although if one is able to sit through a lot of volatility some stocks have been able to make upside progress, such as AAPL, MA, and HANS. Meanwhile, the market has lost a big leading stock in the form of NFLX which has now topped for good, in my view, and is likely headed for the low 100’s. For now I’m taking a slightly bifurcated approach with positions on both the long and short side, but it is not clear whether any meaningful progress can be made either way, particularly if the market remains in the “Chop Zone.” Last week I thought the market was ready to break for new lows, but I was dead wrong. While the market action stymies shorts, it isn’t exactly making life easy for longs, so for all we know we may remain in the Chop Zone for a while longer as QE3 does battle against the forces of a weak global economy. The only way to make money in this market is likely to take a shorter-term view and remain opportunistic on either side based on the technical action of individual long or short ideas. This week that strategy worked in minor fashion with stocks like AAPL on the long side and NFLX and OPEN, for example, on the short side. But making BIG money in this market will depend on a clear trend emerging from all this choppy action, and that make take some time. Members should review all the names I’ve discussed on the short side over the past four weeks, keeping those that remain in weak positions under or around near-term resistance at a key moving average such as the 50-day or 200-day lines as potential short-sale targets. Meanwhile, I’m perfectly content to remain patient and let things sort themselves out, so stay tuned.

Gil Morales

CEO & Principal, Gil Morales & Company, LLC
Principal and Managing Director, MoKa Investors, LLC
Principal and Managing Director, Virtue of Selfish Investing, 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 AAPL, AGQ, DGP, NFLX, and OPEN, 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,

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. ©2008-2017 Gil Morales & Company, LLC. All rights reserved.