The Gilmo Report

August 28, 2013

August 28, 2013

Over the weekend when I indicated that investors should be ready for anything, I have to admit that I didn’t consider the possibility that the market would be blindsided on Monday when news hit the tape to the effect that the U.S. and other western nations are on the verge of a military strike against Syria. Forty-three minutes before the close, this sent the market reversing to the downside as all of the major market indexes turned negative and closed near the lows for the day. Only the Russell 2000 was able to hold slightly up on the day. [am4show  guest_error=’Subscription Required’  user_error=’Subscription Renewal’ ]Yesterday the indexes all pushed for lower lows with the S&P 500 and the NASDAQ Composite Index making lower lows since breaking down off of their early August peaks. While the S&P 500 has moved further below its 50-day moving average, the NASDAQ Composite Index, shown below on a daily chart, looks like it is headed for its 50-day moving average. At the same time, it is finding support along the late July lows which lie just above the 50-day moving average. From a purely technical standpoint, if one were not paying attention to the news, the NASDAQ encountered logical resistance at the top of its gap-down move of two weeks ago. So far it is not clear whether this sell-off is a temporary phenomenon or something more enduring. All we can tell for certain is that based on the technical action alone, the market remains in a choppy range that seeks to make things difficult for investors.




The S&P 500, shown below on a daily chart, gapped down with the NASDAQ yesterday and pushed to a lower low. So far the NASDAQ is a little 1.61% below its recent early August high while the S&P 500 is 4.33% off of its peak. The last time we saw the market sell off as a result of negative developments in the Middle East, during the so-called Libyan Crisis of February 2011, the NASDAQ sold off 8.3% before finally stabilizing and resuming its uptrend. But there are different cross-currents developing this time in 2013, not the least of which is the uncertainty over QE tapering. We do know, however, that QE has not been effective in helping the economy to recover so much as it has helped to prop markets. Given that the market discounts the future several months in advance, it is certainly grappling with the question of where QE will be at as we move into 2014. Investors need to be vigilant here, but also opportunistic, in my view. If this current sell-off is all because of the threat of a Western surgical strike against Syria, once it actually occurs I doubt very much if the ramifications will be far-reaching. The strike is already being heavily advertised as a “limited” strike designed to “degrade” Syria’s ability to use chemical weapons. How that is achieved in precise terms is anyone’s guess as far as I’m concerned.




Meanwhile, gold and silver continue to outperform as both have continued higher, allegedly on the “fear bid” related to the Syria news. Since both the iShares Silver Trust (SLV), not shown, and the SPDR Gold Shares (GLD), shown below on a daily chart, were already in strong uptrends, I tend to think their strength this week is not all related to impending events in Syria, although I’m sure it doesn’t hurt. The bottom line is that the precious metals remain in strong uptrends off of their recent lows until further evidence proves otherwise.




Leading stocks are exhibiting some volatility, but some are able to hold up reasonably well despite some sharp swings. Netflix (NFLX) has held its recent move to higher highs and was on a tear Monday morning before the Syria news sent it into stall mode. An opportunistic buy might occur on a pullback to the 10-day moving average.




Tesla Motors (TSLA) reversed hard on Monday and looked a little toppy, but it actually held up well yesterday as the general market indexes got shellacked. It was interesting to see the latest short interest numbers when they were released this past Monday afternoon. As of August 15th, TSLA short interest had increased to back over 20 million shares, so shorts are still insisting that the stock is rudely overvalued and somehow deserves to come crashing down to earth. I doubt very much whether the stock will suddenly break down and hurl itself sharply lower like some sort of summer storm cloudburst, and I think the greater risk here is on the short side of TSLA. An opportunistic buyer might seek to pick up TSLA shares on a pullback to the 10-day or 20-day moving averages, both of which are tracking relatively close to each other, as we can see on the daily chart below.




LinkedIn (LNKD) pulled back into its 10-day moving average, something I discussed as a possible opportunistic buy point on any pullback in the stock. Some might seek the daily chart, below, as indicative of a v-shaped “double-top,” but my view is that if the stock can pull in and test the 10-day line as volume declines then it may still be viable if the general market does not break down. LNKD looked to be off to the races on Monday as it pushed towards the 250 price level, but as with other leading stocks that were showing strength on Monday, this was cut short by the Syria news. The stock may continue to track along the 10-day line, and I would look to such action as indicative of strength in the stock in the face of a current market correction.




Facebook (FB) also got hit with the market as it reversed off of its intra-day peak on Monday before coming down harder on Tuesday. Despite this, FB was able to hold above last Friday’s pocket pivot breakout move, so this remains a strong leader in the face of the market’s correction. All four of these “horsemen,” NFLX, LNKD, TSLA, and FB, have not come apart so far as the market corrects here. This at least keeps them in the game as stock which might be purchased on an opportunistic basis should the market continue to pull back in the face of an impending strike on Syria.




I have to say that I did not like the action in Three-D Systems (DDD) on Monday and Tuesday. What looked like a powerful breakout on Monday immediately turned tail on volume that was just about as high as the volume seen on the breakout. I did discuss DDD as looking like it was ready to move higher in my report of this past weekend, and that assessment turned out to be correct. Unfortunately, this is a failed breakout, and I’m not so sure this sort of action can be trusted. If I bought the breakout I would be inclined to take a small loss and let this settle down. The most recent short-interest numbers as of August 15th show that short interest in DDD has shot up to its highest ever at 28.1 million shares. It looked on Monday as if the stock was a big short-squeeze in the making, but Tuesday’s hammering strikes me as troublesome.




If we look at DDD’s weekly chart, below, what we see is a 41.9% deep cup formation followed by a “high handle” that has now reached about 16 weeks, or four months, in duration. I am often asked whether DDD is a late-stage base, hence riskier, and my answer to such a question is always the same. You don’t know just how late-stage a base is until it actually fails and this is usually signaled by a major base-breakout failure followed by a downside break through the 50-day moving average. While DDD continues to fake us out on breakout attempts, it also has not busted its 50-day moving average. I still believe that 3-D printing has a great deal of potential in that it is still an emerging technology. But competition will be fierce and there are ever more new entrants arriving on the 3-D printing scene.




This is what troubles me most about DDD. If we look at the historical precedent of First Solar (FSLR) from 2007-2008, as illustrated by its weekly chart from that period below, we can see that FSLR built a 49.4% deep cup formation in roughly the first quarter of 2008. It then went on to build a long “high handle” that was 13 weeks in duration before it blew apart. Back then, solar stocks held a lot of “promise for the future,” but the technical reality back then was that the stocks all topped, one by one, and the group basically blew apart. DDD’s similarity to FSLR is a cautionary flag, in my view, despite huge short interest in the stock and despite the fact that 3-D printing might hold a lot of “promise for the future,” it still cannot break out of this long range. So the longer this goes on the more it begins to resemble FSLR from 2008. I might also note that FSLR in 2008 resembled Broadcom (BRCM) back in late 2000. I include the weekly chart of BRCM from that period below FSLR’s weekly chart, below.


Whenever I consider stocks, I try to look at where I might be wrong. While I have thought that DDD might have further upside potential, I have to be objective and look at what might be going on here from the perspective of historical precedent. I would say the eerie resemblance of DDD to both FSLR and BRCM, both late-stage failed-base short-sale set-ups from the past, gives me pause. Take it for what it’s worth.






If DDD is in a potentially “toppy” type of formation, what does this mean for the other 3-D printing stocks? I suppose in each case we can only judge them on their real-time price/volume action. While Stratasys (SSYS), not shown, continues to hold above its breakout of August 8th, Exone Company (XONE), shown below on a daily chart, continues to hold along its 10-day and 20-day moving averages. XONE also failed on a breakout attempt a couple of weeks ago, but it has managed to hold up and is currently awaiting the pricing of a 2.66 million share offering. When we look at the breakout attempt of two weeks ago, we can see that the stock actually drifted up off the mid-July lows without exhibiting any real volume power in the form of strong, above-average volume moves to the upside. This is essentially wedging action leading up to the breakout, so it might not come as a surprise that it failed. The pullback over the past couple of weeks might help to correct this action, and so far XONE has been able to hold tight along the 70 price area, roughly. I still need to see a legitimate buy point emerge here before I would feel comfortable buying the stock.




Questcor Pharmaceuticals (QCOR) sets up in here in a potentially opportunistic buy position as it pulls back into its 10-day moving average following last Friday’s strong pocket pivot breakout move. If the stock is to remain viable, I would expect it to hold the 10-day line here. One could wait to see if some sort of pocket pivot volume signature shows up to help propel the stock back up towards its highs.




Fleetcor Technologies (FLT) also pulled back in as a result of the general market pullback in the wake of Monday’s Syria news. But it is holding above its recent flag breakout, as we can see on the daily chart below. One thing you might notice that what differentiates FLT’s flag breakout from QCOR’s (see above) is the fact that the stock came out on huge, above-average buying volume. This contrasts to QCOR’s breakout, which while occurring on a pocket pivot volume signature, did not come on huge, above-average volume. Thus FLT holds up well within buyable range of last Thursday’s breakout.




Ocwen Financial (OCN) flashed a pocket pivot breakout of its own on Monday, but this failed in short order. My general view is that if a stock flashes a pocket pivot buy point and cannot hold the intra-day low of that pocket pivot day, I will simply sell the stock and see if it can set up again.




I very much like the action in Yelp (YELP), which was a short-lived buyable gap-up before failing and bouncing off of its 20-day moving average, as we can see on the daily chart below. We were onto YELP long before its buyable gap-up, as I first discussed the stock in my report of June 30th when it was first emerging from its longer-term post-IPO consolidation. While the buyable gap-up in early August did fail, I also discussed taking profits in the stock on that streak up towards the 60 price area and letting it settle down. Well the stock has had some time to settle down and is now in a tight range moving along its 10-day moving average, which sets up the possibility of a pocket pivot buy point emerging at some point in the next few days. I might also look at a strong-volume breakout through the top of this current range at around 53 as a potential entry point if one wants to buy on abject strength.




If we look at YELP’s weekly chart, below, we can see that it is sitting in what is essentially a high, tight flag with some tight closes along the 52 price level. We can also see some supporting action coming in three weeks ago. This one bears watching, although if the general market remains weak or choppy it could simply continue building a base. Right now, however, I see this as a high, tight flag, and a pocket pivot buy point along the 10-day line on the daily chart might be worth looking at buying, should it occur.




Restoration Hardware (RH), which has been in the process of trying to round out the lows of a potential new base, has pulled back below its 50-day moving average, as we can see on the daily chart below. However, this pullback is bringing the stock right into its 10-day and 20-day moving averages on well below-average volume where I view it as potentially buyable given that it is also holding above the intra-day low of the bottom-fishing pocket pivot of four days ago on the chart. Within the context of the prior seven day move up the right side of the base, a two-day pullback on low volume might be just what the stock needs to continue higher.




Now let’s check in with some of our short-sale targets. Cree (CREE) “broke out” to the downside through the lows of its recent bear flag yesterday as the market came apart. As we can see on the daily chart, below, volume picked up and came in at above average. This morning, however, some analyst came out and upgraded the stock with a $70 price target, which sent the stock up as much as 3 bucks before it finally ran into resistance at its 10-day moving average and backed down to close at 55.98. CREE does demonstrate how I will often sell a short position in the face of a sharp breakdown such as CREE had yesterday, with the idea of re-shorting the stock the next day. In this market, with its strange gap moves either way, this has been a sound way to handle short positions. CREE might be giving us another chance to short the stock if it cannot get back above the 10-day line.




First Solar (FSLR) continues to break down and is now below its 200-day moving average after a short bounce that took it right into my projected resistance at the 40 price level. My downside target for FSLR remains 30, using the 10-day moving average at 38.04 as a possible trailing stop.




Solar City (SCTY) also continues to break down, but it is now undercutting its prior 32.66 low from late June, as we see on the daily chart below. This could set up an “undercut & rally” situation, so if you’ve been lucky enough to borrow this and get a short off closer to the 50-day moving average, this might be a point at which to consider covering or at least taking partial profits.




Regeneron Pharmaceuticals (REGN) hit my trailing stop at 240, and at this point I think the stock may need to move above its 50-day moving average a couple of times as it further develops as a potential late-stage, failed-base type of short-sale set-up. I will return to this in a later report if I believe it reaches a stage where I think it becomes a high-probability short again.




While the market remains in a correction, some leading stocks are trying to hold up, but the action overall is making it difficult for investors as volatility rules the day. If indeed this week’s sell-off is entirely based on the news coming out of Syria, I think we have to be open-minded about the possibility of a sharp upside reaction rally once the cat is out of the bag and the full extent and consequences of such a “surgical strike” against Syria’s “chemical assets” takes place. Economic data so far does not seem to be screaming for Fed tapering, so this remains an open question and one that can certainly drive volatility.

In this environment my approach has been to take an opportunistic stance, and this includes going after stocks on both the long and short side in an active trading mode. While the standard O’Neil method is to buy stocks on strength, I prefer to buy leading stocks on weakness, particularly if I see them pulling into their 10-day or 20-day moving averages. In my view, buying into strength as the market remains in a choppy, sideways sort of correction merely increases your risk and subjects you to whip-saw moves. Thus a pullback related to ephemeral news out of Syria might provide opportunities for those willing to look at stocks when they pull into the 10-day or 20-day moving averages. Thus I continue to take a short-term approach here as I view the market not as stock market, but as a market of stocks. Stay tuned.


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 position in LNKD and YELP, though positions are subject to change at any time and without notice.
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