The Gilmo Report

December 15, 2013

December 15, 2013

The NASDAQ Composite Index has so far been able to hold what is considered support at the 4000 price level as it peels off of last week’s new-high peak, but beyond that I don’t find much that is constructive in its daily chart, below. Wednesday’s break was followed by two days of churning around the 4000 support level as the index forms what thus far doesn’t look like much more than a bear flag. While support levels are being held for now, one gets the feeling that the market may simply be in the process of eating its way through support. That, however, remains to be seen as the big event of the coming week will be the Fed policy announcement on Wednesday, where many expect the Fed to come out with some sort of tapering move. If we seek to apply my “Ugly Duckling Theory,” it has always been that the market tends to rebound strongly when it starts looking the ugliest. And going into year-end there is still potential for some upside in the market once we get past Wednesday’s Fed announcement.




The S&P 500 Index is also holding at its own support level around the 1775 price point, as we can see on its daily chart below. After Wednesday’s break to the downside, it too is building a little bear flag here as it churns around support. Notice, however, that on both the NASDAQ and S&P 500 charts each index has just undercut a prior low as it holds right at support, which does put them in the position to fake everyone out and move back to the upside. However, a high-volume breach of support likely means that the 50-day moving averages will come into play on both indexes, but with that said, even a pullback to the 50-day lines would not result in much of an overall correction. As well, keep in mind that the NASDAQ is only 1% off of its recent peak while the S&P 500 is 2% off of its recent peak.




In my Wednesday report I showed the NASDAQ Advance-Decline line chart, below, and pointed out that NASDAQ breadth had actually topped out in late November. Given the action in a number of leading stocks, one might also have a visceral feel for what the chart is telling us. In essence, one could consider that the NASDAQ topped out in late November, and it was the action of a handful of big index stocks that helped to send the NASDAQ to new highs last week.




A similar situation can be seen in the NYSE Advance-Decline line chart, below, except that we see that NYSE breadth actually topped out in late October, and since then has provided a stark divergence to the action of the NYSE-based indexes which have trended higher since late October. While the action in the advance-decline lines might be considered negative on its face, it also means that most of the rest of the market has been correcting for a period of time. And we can see on the A/D charts that each time breadth has gotten ugly and the A/D lines have made lower lows a bottom has been created. Thus we might have a raft of stocks that have been correcting and consolidating and which will come out of their corrections to help drive a strong year-end push to the upside.

If the Fed doesn’t do anything, then it is possible that we could see a rally into year-end. But trying to create a firm causal relationship between what the Fed does with respect to QE tapering and how the market will react is another thing. There is also the possibility that any announcement of QE tapering will be a measured move that the market has already priced in. So all you can do is watch the price/volume action of the index and leading stocks…




Facebook (FB) gapped up on Thursday following the announcement that it would be added to the S&P 100 and 500 Indexes, and the move carried through into Friday, as we can see on the daily chart below. On Wednesday I incorrectly stated that the stock had only been added to the S&P 100, and on that basis I thought the gap-up move might be shortable. As it turned out, I was quite wrong on that call as the stock has closed near the peak of its daily range for two days in a row. In fact, my original assessment back on December 8th (see report of that day) that FB might be rounding out the lows of a new base was dead on. Unfortunately, there were no concrete buy points showing up as the stock moved up through its 50-day moving average.

FB is now within spitting distance of its all-time high as it moves up the right side of a big cup formation. The question is whether FB is going to lead the market back to the upside or whether continued general market weakness will drag FB back to the downside. While Thursday’s action qualified as a pocket pivot volume signature, the stock was too extended from the 10-day moving average for it to qualify as a pocket pivot buy point. With FB cruising toward its prior highs, we might look for resistance from the left side of the cup to come into play, causing the stock to at least back-and-fill a bit in order to build a handle, but so far I can’t fault the stock’s action, particularly in the face of some general market weakness this past week.




LinkedIn (LNKD) hasn’t gone anywhere since it flashed a pocket pivot buy point coming up through the 50-day moving average two Fridays ago, as we see on its daily chart below. Volume picked up slightly on Friday as the stock pushed down towards its 50-day moving average, and I would characterize the situation with LNKD as being in flux here. There remains the possibility of the stock failing at the 50-day moving average, which would put it into play as a short-sale target. What is apparent on the chart is that there is a fair bit of overhead resistance up near the 240 price level, and the stock at best probably needs more time to work its way through that. In the meantime, if it is able to hold the 50-day line I would keep an eye out for some sort of secondary pocket pivot off of the 50-day line as confirmation of the stock’s potential ability to clear through near-term resistance at the 240 level.




Netflix (NFLX) finally flashed a pocket pivot off of its 10-day moving average on Thursday, as we can see on the daily chart below. As with most pocket pivots in this current market environment, that went absolutely nowhere as the stock backed down a little over a percent, but then it is finding some resistance at the intra-day peak of the huge reversal day following earnings on October 22nd. If one chose to buy into this pocket pivot then I would suggest using either the 10-day moving average at 362.07 or the 20-day moving average at 356.10 as your selling guides. Note that NFLX while NFLX has exhibited a bit of looseness around the 10-day line it has held the 20-day line quite well since stabilizing in early November.




In my November 8th report I noted that Tesla Motors (TSLA) had flashed a big bottom-fishing type of pocket pivot coming up off the lows of its current correction, as we can see on the daily chart, and suggested that one could test this as a trade by purchasing shares with the idea that the stock would hold the 20-day moving average. As the chart shows, TSLA did exactly this before breaking out on Thursday and moving up to its 50-day moving average on Friday, where it encountered some serious resistance, reversing to close only slightly up on the day. I thought this was a good trade off the 20-day line, and so far it has been, but the stock is going to have to clear the 50-day moving average with some sort of pocket pivot move, and that may take a few days to develop.

Otherwise, I note that as of the end of November over 29 million shares of TSLA were sold short, which creates some short-interest kindling to potentially ignite a rally, and this is probably what has helped the stock move off of its recent lows and back up to the 50-day line. The flip side of TSLA’s current action is that on the weekly chart, not shown, it could also just be building a right shoulder in a possible head and shoulders type of formation. So far this is not clear, and where the stock goes from here will obviously determine how this all pans out. There is always the outside chance that TSLA is just building its first serious base since launching out of a long 2-year-plus consolidation earlier this year.




Since I first discussed Twitter (TWTR) in my report of exactly one week ago, it has proven itself to be the perfect Christmas gift, rocketing 31% in just five days. It has also provided more proof that in this market all you have to do is own the right stock, and the indexes can be damned. I’d have to admit, however, that the stock’s move has quite simply blown me away in terms of its upside fervor. Even on Friday, with the stock way extended from its recent “IPO U-Turn” base, it streaked higher on the heaviest upside volume in the pattern since the IPO day on November 7th. And to think I thought this was a sell at around the 53 price level! Right now TWTR is the market’s leading stock, having taken the reigns from Gogo (GOGO), which was moving while TWTR was still basing.




Speaking of Gogo (GOGO), the stock continues to pull back in anticipation of Tuesday’s IPO lock-up expiration, which will allegedly unleash nearly 74 million shares onto the open market, surely a number that would intimidate any holder of GOGO shares. However, I am reminded of another IPO lock-up expiration in Krispy Kreme Doughnuts (KKD) way back in March/April of 2003. Back then, a couple of institutional hedge fund clients of ours told us that the stock was a big short based on this IPO lock-up expiration. This was when I was the head of the institutional services group at William O’Neil + Company, Inc. As it turned out, the lock-up expired and KKD doubled over the next several weeks. Thus I am very interested in seeing how GOGO acts on Tuesday, once the lock-up expiration is out of the cage. As I see it, what if somebody threw a selling party for GOGO and nobody came? Shorts have been swarming the stock lately in anticipation of the lock-up expiration, and my feeling is that if the stock doesn’t break down from here, it could drive a move back up to the recent highs.

As we can see on the daily chart, below, the stock was hit with some selling volume on Thursday, but recovered off the lows to close above the 20-day moving average and basically right on top of its prior flag formation from which it pocket pivoted over two weeks ago. Currently GOGO has a float of 29 million shares and total shares outstanding are at 84 million. So with nearly 74 million shares coming loose on Tuesday, I doubt very much that they will all be sold at once, and that only a smaller percentage of the total will likely come into the market. But this could also have the effect of making the stock more liquid for institutions to traffic in, so I don’t think any assumptions can be made until we see what happens once the lock-up expires. Watch this one carefully this week.




Disappointing action has characterized the “Three Caballeros” over recent days as Biogen Idec (BIIB) continues to drift lower following its buyable gap-up move of late November, as we can see in its daily chart, below. So far the stock has been able to hold the intra-day low of the BGU day where it is also finding support at its 20-day exponential moving average. We saw (AMZN) do something similar in early November following a big BGU in late October where it gapped up and then drifted down to its 20-day moving average. Big stocks like AMZN and BIIB tend to be slower, so I would watch for some support to show up for BIIB here along the 20-day moving average. At the very least, your stop is pretty close if you use the intra-day low of the BGU day at 274.98 plus another 2-3%.




As the market pulls back I like the action in Workday (WDAY), which I discussed in my report of December 8th as being buyable along the confluence of the 10-day, 20-day, and 50-day moving averages. So far the stock has consolidated its prior gap-up move that came from a weak position straight up off the bottom of the base. But the action over the past couple of weeks has served to build a constructive handle with volume drying up as the stock drifts along the 50-day moving average on the daily chart, shown below. This also occurs along the 10-week moving average on the weekly chart, not shown. Notice also that all of the color-coded indicators I use on my HGS Investor daily charts are flashing blue.

If the market finds its feet, I like WDAY as a strong long here, especially given that as of the end of November, even after the gap-up move following earnings towards the end of November, short interest in the stock is still 3,996,358 shares, about a third of the 12 million share float. WDAY has also “grown up” quite a bit since I first began watching it way back at the beginning of the year. Back then the stock was rather thin, trading around 300,000 shares a day, but now the stock averages about a million shares a day, which I consider very constructive. One could watch for some sort of pocket pivot coming up through the 10-day moving average, currently running through the 80.07 price point, or buy shares here using the 50-day line as a selling guide.




I’ve had one member email me that he finds these charts I use with the color-coded indicator bars across the top “confusing.” I think this is quite interesting given that I find them very “clean-looking” along the top of the chart and well-suited to my method of flipping through hundreds and thousands of charts each week looking for identifiable patterns. My quick answer to anyone who finds these charts confusing is to simply ignore the colored bars along the top. But the bottom line is that using this chart set-up on my HGS Investor software has been my secret weapon in what has been my best-performing year since leaving the O’Neil organization over eight years ago.

Based on the Ugly Duckling Theory, what I do is scan the markets constantly looking for constructive patterns with positive blue colors showing on the Bongo, Kahuna, and Force Index bars running across the top. I’ve found that when the market is correcting, and the indexes start to look a bit ugly, stocks showing action like WDAY above are worth coming after on the pullbacks, and my method has been to take big positions on this basis and then trade out of them into any resulting strength. This would have worked well for anyone with names like GOGO and TWTR lately, and it worked well earlier in the year with names like TSLA and SCTY, for example, all names that a “CANSLIM® robot” approach would have missed.

Meanwhile, it is also useful in identifying names that are weakening, as the daily chart of Taser International (TASR) shows below. In recent reports I have turned lukewarm towards TASR, and even sold out a position I had bought along the 16 price level on the prior pullback to the 50-day moving average well before it broke down through that line on Friday based on what these indicators were telling me. This chart has been my secret weapon in this market, regardless of how confusing someone else might find it, and I would point out that if you are going to be a successful investor your ability to take in a lot of information and then distill it into a few essential and meaningful clues is critical. If you find this chart confusing, then you may lack this basic ability. But that is what I’m here for! In any case, we can see that the once promising TASR is breaking down, and by showing the daily chart I use with HGS Investor software I am hopefully providing some insight into how I have enhanced and shifted my methods as I adapt to a QE market.




In my view 2013 has been a difficult year for so-called position traders who slowly build up positions in stocks as they move higher only to see the gains evaporate quickly once they have pyramided into a larger position. Thus a more flexible and active approach that frequently invokes the Ugly Duckling Theory has given me a very tangible edge in this market. In this spirit I am interested in the action of Finisar (FNSR), shown below on a daily chart. FNSR came out with earnings two Thursdays ago after the close, and gapped up on Friday only to close at the lows of the day as overhead supply came into play.

However, Thursday’s action was a bottom-fishing pocket pivot coming up through the 10-day moving average and off of the 150-dema. FNSR beat estimates handily, and among the fiber-optic stocks it is the fundamental leader as it has staged a big earnings turnaround with earnings growth of 158% and 187% over the past two quarters. Sales are also accelerating here, up 1%, 21%, and 25% over the past three quarters, sequentially, while after-tax profit margins have expanded at 8.1%, 11.8%, and 15.1% over the same period. Next quarter FNSR is looking for 153% earnings growth on a hard number of 43 cents a share, which is nothing to sneeze at. FNSR is now pulling back after encountering logical resistance at the 23 price level as it holds along the 20-day and 10-day moving averages. I have actually tested the stock on both the long and short sides, and I don’t get the sense that there are a lot of eager sellers at this time.

Thus I am looking for the stock to make another attempt at the 50-day line near 23 with the idea that it will hold above the 21 price level on any further pullback from here. While the pattern has the look of a “pinhead and shoulders” formation it also has the look of a potential roundabout, and the massive buying volume off the lows catches my interest. This is one to keep an eye on.




I discussed Cree (CREE) as a short-sale target in my report of this past Wednesday, and we can see that the stock came off on Thursday as it pulled down and tested some of its recent lows. I would prefer to look at this as a short on a rally up towards the 200-day line, currently at 60.59 and only under conditions of further general market weakness, which I consider an open question at the current time. This weekend’s edition of Investor’s Business Daily has a big article on the growth of LED lighting which might help to drive a little upside push in the stock come Monday.




It is rare for me to play “earnings roulette” with a stock but I did so with Lululemon Athletica (LULU) on the short side going into earnings on Thursday morning, which I discussed in my report of this past Wednesday. If you’ve been following LULU this year it has gapped down every time it announced earnings, and I felt that the odds of the stock doing so again given the inherent weakness of both the micro- and macro-chart patterns and the fact that the stock’s relative strength line was making a much deeper, lower low ahead of the stock’s price were decent enough to take a shot. Thursday’s gap-down move was a nice “score” for me on the short side but it was also playable on the bounce up to the 64-65 level early in the day as the stock turned and moved lower over the rest of the day and closed even lower on Friday. Now it looks like the stock is short-term sold out, and I would be looking for a rally into the mid- to low-60’s as a possible re-entry point on the short side. As I wrote on Wednesday, LULU may be in the process of a long-term top and decline, and Thursday’s big gap-down move may be the start of such a move. The key here is that the stock is far too extended on the downside to try and enter a short position here, so we will have to monitor the stock on any ensuing bounces from here.




I’ve been watching Yelp (YELP) for a while now, even occasionally shorting into rallies over recent months, a very short-term shorting strategy that has worked out for a few days at a time, as we can see on the daily chart, below. Since bottoming out short-term in late November, YELP has moved back above the 65-day exponential moving average but remains just under the 50-day line. The move off the lows has been characterized by wedging action, e.g. an upside move coming on successively lighter upside volume, as I’ve outlined on the chart. YELP might be getting some “love” from the moves in FB and TWTR lately, but volume has been lacking.

The question here is whether the stock resolves to the downside or whether it is able to regain the 50-day line with some sort of “roundabout” bottom-fishing pocket pivot. I think that is an open question, and I’m watching the stock here with an open mind as I try to determine this. I did short the stock on Friday as it rallied into the 50-day line, and the stock did weaken and sell off a couple of percent from there for a quick, small profit, but I treated it as a day-trade to get a feel for how the stock is acting. While there was clear intra-day resistance at the 50-day line, there was also clear intra-day support at the 65-day line, so I consider the stock in flux here. Notice also that it is holding above the 10-day and 20-day moving averages, so for all we know this will resolve as a “roundabout” type of formation.




If we look at YELP’s weekly chart, below, we can see the wedging rally over the past two weeks with the stock churning about this past week on light volume right at the 10-week moving average. The weekly chart has the look of a little bit of a rolling top sort of thing that resembles an H&S formation, but remember that FB also resembled an H&S formation three weeks ago. In any case, it is likely that YELP will resolve one way or another based on the action of the general market.




Despite the weakness in the indexes as well as market breadth, I am not locking myself into a rigidly bearish frame of mind here. We have seen the market sell-off before on fears of QE tapering, but I still have to question exactly how much tapering the Fed would engage in should it decide to do so, and whether, barring anything extreme, this has already been discounted by the market. The critical factor going into the end of the year will be stock selection, in my view, and we’ve seen how focusing on names like GOGO and TWTR recently have been very profitable.

Thus the names I’ve covered in this report are my best ideas on the long side should the market find its feet either before or after Wednesday’s Fed policy announcement. As well, the Four Horsemen of FB, LNKD, NFLX, and TSLA have been trying to make something of a comeback as of late as the other big-cap NASDAQ names like AMZN, GOOG, PCLN, and AAPL come off of their recent peaks. My view is that if we see a strong rally into year-end all of these names will participate, and so these eight stocks would be names I’d be interested in given their status as big index stocks as well. 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 a position in LNKD, though positions are subject to change at any time and without notice.

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