The Gilmo Report

December 16, 2018

December 15, 2018

I wrote on Wednesday that I was looking for a market move to lower lows, with the caveat that in this market it was impossible to give anything a 100% certainty. But, as I’ve noted in recent reports and video reports, the indexes have at least looked like they’ve wanted to break out to the downside. On a closing basis, that is what we saw on Friday as the indexes sold off around 2% or more across the board.

The Dow Jones Industrials Index had been one of the stronger ones since the October peak, rallying above its 50-dma twice while the other two of the big three market indexes only managed to do so once, and only briefly. It is now the weakest of the big three with Friday’s close at its lowest closing lows since the market correction began in early October.

Note that an undercut & rally attempt on Monday looked good for a day or two before everything rolled over again. However, the action on the middle three days of the week, where early rallies were sold into, was likely a hint of what was to come by Friday.




The S&P 500 Index also posted its lowest closing low since the market peak in early October on Friday. Volume was, of course, higher as the index declined slightly less than 2%, logging a -1.91% loss on the day. It, too, has failed on this past Monday’s undercut & rally attempt as it rolls to lower closing lows.




The NASDAQ Composite Index just missed posting a lower closing low on Friday but declined the most among the big-three major market indexes at -2.26%. The NASDAQ 100 Index, where most of the former big leaders remain flat on their backs, led the NASDAQ lower with a decline of -2.56%. NASDAQ volume was higher, as all the major market indexes appear to be on the verge of clean downside breakouts, just in time for Christmas!




The small-cap Russell 2000 Index has broken out to lower lows as it leads the rest of the market lower. Note that the Russell peaked on the last day of August, a full month before the big-three market indexes topped. As a de facto leading indicator index for the market based on this early top, its clean breakout to lower lows may be telling us where the other indexes are headed.




Perhaps it is more indicative of a deep personality flaw on my part, but I just cannot help finding extreme humor in the parade of financial cable TV pundits and commentators who keep telling us that Apple (AAPL) has bottomed, and that it has become cheap beyond recognition. In my view, as one of the most broadly-owned institutional names in this market, the stock is just telling you what is symptomatic of this market.

That would be the fact that money is steadily exiting this market. The severe break in so many big-stock leaders back in October smacked of forced selling. The steady manner in which rallies have also been sold into over the past six weeks also tells you that money is looking to exit this market. There is no accumulation of stocks, there is only downward-trending volatility pushed around by various news alibis, from China tariffs to interest rates to Brexit votes to government shut-downs.

In my view, these are all just alibis that create convenient relief rallies that then get sold into. I’ve discussed the concept of alibied selling before, but the market seems to be running out of alibis. Even a morning tweet on Friday from President Twitter about how badly the Chinese want to make a trade deal was ignored by the market. At this point, the President is just tweeting “wolf!”

As money continues to systematically exit the market, big-stock leaders like AAPL (we can also throw in AMZN, FB, GOOG, MSFT, NFLX, NVDA et al.) keep getting cheaper, and cheaper, and cheaper. Whether there is bargain basement value to be had is irrelevant. There is too much money in these stocks that wants out, and so the selling beat goes on.




As beaten-down leaders like AAPL continue lower, those that have held up relatively well, such as Microsoft (MSFT), are beginning to come loose. Here we see the stock busting the 50-dma on Friday as volume picked up sharply, triggering as a short-sale in real-time as it broke the line. If my theory of lower lows to come pans out, expect MSFT to eventually breach its 200-dma after holding at the line twice before.




MSFT was one stock that could have been acted on as a short on Friday as it breached the 50-dma, as I discussed in my last report. In cases where stocks have been beaten to a pulp, like AAPL, there are no reference levels for possible short-sale entries. You must be patient and wait for the right rally at the right time, which might be what we are seeing currently in Facebook (FB).

FB has been trending steadily lower since its massive-volume gap-down break after earnings in late July. This was followed by a rally up to the green 20-dema, which served as a reasonable short-sale entry point at the time. It has since followed the 20-dema down all the way until finally rallying above the line last week.

This has resulted in a logical reaction move back up to the 50-dma. This would serve as a new, lower-risk, short-sale entry spot, using the 50-dma as a guide for an upside stop. FB has been helped along by a few analyst comments regarding how cheap the stock is. But if AAPL is selling at 12.4 times next year’s earnings estimates and FB is selling at 19.3 times next year’s earnings estimates while growing at 1% vs. AAPL’s projected 2019 growth of 12%, how cheap is FB, really?




The FTD Four have remained somewhat resilient in the face of the major indexes returning to their October and November lows. My theory, however, has been that a breakout to lower lows by the indexes that leads to a new leg down in an ongoing market correction or even bear market, will see these names fail on their recent breakouts. Some have already started to falter, but only slightly.

Twilio (TWLO) broke out on Wednesday but ran into resistance at the $100 Century Mark. Technically, if one was alert to it, and I know from the blog comments that some of you were, the move up to and near $100 since Wednesday have been shortable events. The stock has backed down each time and on Wednesday reversed back below $100 on heavy volume.

Obviously, breakout buyers are interested in the stock here, and they may be what has held the stock up along its recent breakout and re-breakout point. What I am watching for here is a clean breach of the 20-dema which would trigger the stock as a short-sale entry at that point. For those who began working the stock short near the Century Mark, this might even be an add point, depending on how you are handling the stock.

In a continued market breakdown, I cannot see how a stock selling at 572 times next year’s earnings estimates of 16 cents will escape some sort of PE-contraction. Trying to assess where a stock might be vulnerable to a severe PE-contraction on a potential late-stage failure type of situation is part of my LSA-Method of shorting. It worked well in October, and the FTD are some of the few stocks still hanging up there in the tree, waiting to be picked if they fail.




I’m watching for the same thing with Tableau Software (DATA) as it treks to new highs on light volume. So far, the stock hasn’t been hit with any profit-taking, but this is something we can watch for. A breach of the 20-dema would trigger this as a short-sale target at that point. Given that it sells at 79.62 times next year’s earnings estimates of $1.62, it may not be as egregious as TWLO. But this still makes it vulnerable to a PE-contraction on any late-stage failure.




Etsy (ETSY) trades at 76 times 2019 estimates of 71 cents a share, and is still hanging along its recent base breakout point after failing on the initial move in early November. Over the past two trading days, it has come loose a bit as selling volume picked up sharply on Thursday on a small breach of the 10-dma.

A clean bust of the 20-dema would trigger this as a short-sale target at that point, although I might also consider shorting any moves up near the prior highs around 58 if they occurred on light volume. Note that Wednesday’s breakout to all-time closing highs had no real volume behind it, and it subsequently failed.




Planet Fitness (PLNT) differs from the prior three members of the FTD Four by virtue of the fact that it has already dropped below its prior breakout point. But it remains above its 20-dema, despite dipping just below the line twice before. A clean breach of the line triggers this as a short-sale target at that point, although because it has already dropped below the prior breakout point it can be shorted here while using the 10-dma and the prior breakout point as a guide for a tight upside stop.

Note that the 10-dma and the prior 55.35 breakout from late September coincide. That would be the only true breakout point to consider, although PLNT did fail to break out to all-time highs last week but reversed on higher volume. I tend to view that as more of a double-top reversal than a base breakout.




Canada Goose Holdings (GOOS) is having its goose cooked, so to speak, as it gaps down to lower lows after last week’s late-stage breakout failure. That occurred when the stock broke below the 20-dema seven trading days ago on the chart. I wrote on Wednesday that any reversal back below the 50-dma would again trigger the stock as a short-sale at that point, and that’s precisely what we saw on Thursday.

That was followed by a gap-down break on Friday that took the stock ever closer to the 200-dma. The 200-dma could be viewed as a near-term downside price target for any short position in the stock taken at either the 20-dema or the 50-dma.




Tesla (TSLA) is still on failure watch as it runs into resistance along the near-term highs around the $380 price level. While opportunistic short-sellers could hit the stock along those highs, we’re still waiting for a breach of the 20-dema as a trigger for a short-sale entry, should that occur. I’m not all that keen to buy the stock, but that could change depending on the general market environment.

If the general market were to stabilize and move higher, then TSLA could become actionable as a long, although there isn’t any concrete long set-up right here. The recent breakout of last week came on light volume, hence is suspect. Therefore, that is why I keep this in mind as a two-side play – if it busts the 20-dema and the general market embarks on a new leg down, TSLA becomes a short-sale target and actionable on that basis.




I tend to lean toward the short side of TSLA, however, based on the weekly chart, which looks quite a bit less appetizing. We can see a sharp move off the lows of a big, ugly 17-month price range extending back to June of last year. The last two weeks have seen the stock stall on weak volume, which leads me to believe it is more susceptible to a break back to the lows of the range than a breakout.


GR121618-TSLA Weekly


I’m also not that interested in buying Workday (WDAY) on its recent breakout. In its favor, we can say that the stock is holding up in a relatively tight flag after a big gap-up breakout two weeks ago after earnings. But a new leg down in the general market might very well cause WDAY to fail on this recent breakout, hence a breach of the 20-dema is something to watch for.

The stock could also be susceptible to a PE-contraction from current levels given that it sells at 127.5 times next year’s earnings estimates of $1.27 a share. I’d like to see how a test of the 20-dema works out. A volume breach brings me in on the short side, while a constructive test and hold of the line could bring it into a lower-risk long entry position.




What makes me skeptical of WDAY is the look of the stock on the weekly chart, below. The recent breakout was a classic, later-stage, straight-up-from-the-bottom (SUFB) move. These are typically failure-prone, and we can also see the stalling action on the weekly price bars over the past two weeks, one on heavy volume, the other on lighter volume.


GR121618-WDAY Weekly


The other names in the cloud wolf pack include both (CRM) and Splunk (SPLK), both of which gapped up and rallied through both their 200-dmas and 50-dmas after reporting earnings in late November. The moves in both stocks have since stalled, and CRM dropped back below its 50-dma on Friday, holding right at the 200-dma. This could easily breach the 200-dma and trigger a short-sale at that point.

CRM may be considered more of a “value” stock among the cloud names, given that it sells for a mere 52.49 times next year’s estimates of $2.61. But growth is expected to slow sharply to 6% in 2020. So, is this worthy of additional PE-expansion, or the opposite?




Perhaps we can look for clues on CRM’s weekly chart, below. Despite the strong move three weeks ago, the past two weeks have shown big stalling action on the weekly price bars along the 10-week and 40-week moving averages. While you can’t see it on the chart, the 10-week line moved 32 cents below the 40-week line this past week, creating a Black Cross. Therefore, this may be vulnerable to a downside price break from here in any continuing market correction.


GR121618-CRM Weekly


Splunk (SPLK) has also made zero progress after gapping up and running through its 50-dma and 200-dma at the end of November after reporting earnings. The stock has essentially been somersaulting around its 200-dma, dipping below the line for the third time yesterday as selling volume picked up. Based on where upside resistance is, this has been more shortable along the 111-112 price level, at the top of the two-week range.

The real point, as is the case with CRM as well, is whether we see a wholesale breakdown back toward the prior November lows. Thus, a breach of the 20-dema might likely confirm the start of a deeper breakdown and so could be used as a trigger for a short-sale entry. On the other hand, an opportunistic short-seller might look for any weak rally back up into the 200-dma as a lower-risk entry, using the line as a guide for an upside stop.




SPLK’s weekly chart reveals a large head and shoulders formation, but with some large weekly volume spikes along the prior October and November lows. We can also see that the 10-week moving average crossed below the 40-week moving average in a Black Cross about five weeks ago. Now the stock is stalling along the 40-week line on light volume.

SPLK currently sells at 90 times next year’s earnings estimate of $1.17 a share, so is vulnerable to a PE-contraction in any continued market correction. It is one of many names on my current short-sale watch list that is showing similar head-and-shoulders type of action, but the final resolution of this will very likely depend on where the general market goes from here.




In my last video report, I went through this long watch list of short-sale candidates examining both their daily and weekly charts. Premium members will note that many of the weekly charts were showing textbook head-and-shoulders or LSFB type of action as well as weakness on the weekly price bars. Those patterns were one piece of the puzzle that made me think a move back to the October and November lows was in the cards. I’ll review this list in this weekend’s video report.

Twitter (TWTR) is holding its current low-range base breakout, thanks to some generous analyst putting a $39 price target on the stock and J.P. Morgan (JPM) listing it as one of its top three internet picks (along with AMZN and FB) for 2019 in Barron’s magazine. As I wrote on Wednesday, in this market environment I’m more inclined to short the breakout than buy it. Of course, this could change depending on the general market action going forward and if the stock is able to continue holding this breakout with volume drying up.

The weekly chart also shows a very large head-and-shoulders formation, and for all we know this latest analyst-induced breakout is simply forming another right shoulder in the overall pattern. In my view, the litmus test is whether it can hold the breakout and, more importantly, the 200-dma. A breach of the 200-dma, or the 40-week line on the weekly chart, triggers this as a short-sale at that point.




I gave Shopify (SHOP) a lot of attention in my last report, comparing its recent drift to higher highs to CSX Corp.’s (CSX) similar drift higher that eventually resulted in a breakdown back through the 50-dma and, on Friday, a breach of the 200-dma as well. That turned out to be somewhat prophetic as the stock again stalled on Thursday, giving shorts a decent entry opportunity.

After the close on Thursday, SHOP priced a 2.6 million share secondary offering at 154, sending the stock gapping lower on Friday’s open. It opened at 147.7, just above its 200-dma, and then proceeded to slash right through the 200-dma and the lower 50-dma on very heavy selling volume. Apparently, another 2.6 million shares were just too much extra supply for the market to handle, especially with a stock selling at 233 times next year’s expected earnings of 69 cents a share.




The interesting thing here is that despite the massive gap-down break on Friday, SHOP’s weekly chart reveals a stock that may just be starting a much deeper decline. This past week’s action looks like a high-volume base-failure on a double-bottom type of formation as the stock reversed hard back below the 40-week and 10-week moving averages. This tells me that any rally back up to the 50-dma or the 200-dma, which is possible given the inherent volatility of this stock, would offer very reasonable short-sale entry points from here.

However, as I wrote on Wednesday, the most opportunistic entry occurred on Thursday right at the highs. And, as I noted in that report, SHOP is a stock that requires an opportunistic approach, and that would have worked famously on Thursday and Friday by shorting into the stalling rally. From here, I would at least be looking for a test of the recent lows below 125 in any continuing market decline.


GR121618-SHOP Weekly


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.

For the moment at least, my call for lower lows looks to be in process, but we are heading into the week before Christmas. The charts of the indexes and the stocks on my short-sale watch list, among many others, look weak. Some tried to pin Friday’s decline in the Dow on Johnson & Johnson’s (JNJ) -14% decline after a report surfaced that the company knew its products contained asbestos since the early 1970’s.

However, I would point out that JNJ is certainly a Dow component, but it is not a NASDAQ 100 (NDX) component, and it was the NDX that led the major market indexes lower with the largest decline by far. So, Friday’s market sell-off was not an isolated case of JNJ dragging the indexes down. It was broad, with decliners smashing advances by about 22 to 7 on both exchanges.

Further weakness looks likely, but as I indicated in my last report, this market throws you a lot of intraday curves, making it difficult to navigate things even when you are correct. That is why it helps to remain flexible and nimble, while investors looking for more intermediate trends on the long side should just stay in cash.

Of course, it helps when you can nail a short in SHOP and catch a break like we saw on Friday. Perhaps more such breaks are in the cards, and for now I’m sticking to my plan of looking to short rallies until I see evidence telling me to do otherwise. Play it as it lies, as I always say.

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 SQQQ, though positions are subject to change at any time and without notice.

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