The Gilmo Report

June 30, 2013

June 30, 2013

The market completed its fourth day of a rally attempt on Friday, with the NASDAQ Composite Index just barely clearing its 50-day moving average on Thursday. After an early-morning pullback on Friday that started to give the impression of a rally failure, the NASDAQ managed to close up on the day, just barely clinging to the underside of its 50-day line, as we see on the daily chart below. Volume was heavy on Friday thanks to Russell Index rebalancing, which also had the effect of spinning the market back and forth most of the day. On the surface this looks like high-volume churning at the 50-day moving average, but the bottom line is that the market remains in a four-day rally attempt off of Monday’s low. In my view, if the market is going to fail and head back for Monday’s lows, it should do so in the next few days. What is interesting here is that the oversold rally over the past four days saw very small ranges as the index gapped up on Wednesday and Thursday, thus most of the market’s upside movement on those days took place overnight as the futures gapped up pre-open on both days. So far, shorting into this rally has not yielded any significant results given the fact that the market has not been willing to roll over.




The S&P 500 Index, shown below on a daily chart, ran into clear resistance at the 50-day moving average on Thursday. Friday saw the index flop around all day before giving it up right into the close in a flurry of selling that I suspect may have been related to the Russell Index rebalancing, and so didn’t entirely have the feel of a market rolling over and giving it up. In essence, the distorted volume makes the action unclear, and, going into a short July 4th holiday trading week, who knows what we’ll see. With Fed heads running around assuring the markets that QE will not be ending any time soon, and that the market has overreacted, the initial impetus for the selling off the peak and last week has diminished. This of course assumes that comments by the Fed both last week and after their meeting in May are the specific and only cause of the market’s five-week correction. Given the likely quiet, summer pre-holiday trade this week, I would not be surprised to see the market “melt” to the upside going into Thursday’s July 4th holiday. If the selling picks up and the market breaks to the downside on Monday, for example, then the market is likely in for a test of the recent lows. For now, it is simply a matter of letting things play out, but I do notice some potential leaders acting okay here, and in the event of a market “melt up” I’m not averse to taking some long trades on this basis.




Tesla Motors (TSLA) still remains my favorite stock in this market, and the daily chart below shows the stock holding up in a high, tight flag formation. Interestingly, TSLA made an all-time weekly high close this week, and hardly came off at all during the sharp sell-off we saw the prior week and again this past Monday. On Friday, the stock pulled down a little bit, but selling volume was the lightest in the pattern seen since before the stock’s big gap-up move after it announced earnings in May. Short interest picked up in the first half of June for which the most recently available numbers have been posted on the website, with 19.9 million shares sold short as of June 14th vs. a little over 18.5 million shares sold short at the end of May. At its peak, short interest in TSLA hit 32 million shares at the time of earnings in May. Despite many calling the move in TSLA nothing but a short-covering rally, in fact only 1/3rd of the short interest has been covered, and to me the stock looks like it wants to move higher from here. I’m not averse to buying a small position here in anticipation of such a move, ready to unload if it were to break down on volume. But so far the stock has shown a tendency to hold the 20-day moving average, the green moving average on the chart.




Usually, in anticipation of the resumption of a market rally, you will begin to see some new leaders start to break out, and there are many times I can recall buying a stock breaking out when the market is still in a rally attempt off of its lows with the idea of jettisoning the stock should the general market fail. I’ve previously discussed Invensense (INVN) after its buyable gap-up move of two weeks ago, as we see on the daily chart. The stock stopped me out, however, after breaking sharply below the 14.05 intra-day low of the gap-up day. As I discussed in my report of this past Wednesday, INVN did find support at the 20-day moving average and was able to recover back above that 14.05 gap-up day low. Volume was not sufficient to generate a new buy signal on Thursday, but Friday saw the stock break out of a cup-with-handle formation on extremely heavy volume on news that its chips have been designed into the new Apple (AAPL) iPhone. In my view, this is huge news for INVN, and what I was originally looking for. If the market can somehow find its feet and resume its rally, I believe INVN can easily clear the $20 price level from here. The top of the handle is 14.96, and the stock is well within buying range based on Friday’s close.




In this market, one theme I’ve discussed many times is the idea of buying stocks as they potentially round out the lows of new bases after going through a multi-week period of correction. In fact, some of the best price moves we’ve seen in a range of leaders over recent months have come from “bottom-fishing” pocket pivots off the lows of a basing formation. I like the way Valeant Pharmaceuticals (VRX) has been hanging tight after flashing two pocket pivots in a row last week following the pricing of a 23.5 million share secondary offering. Even as the market has corrected, VRX has been able to hold up along the 10-day line with volume drying up sharply on Friday. My view is that this stock wants to move higher from here, and if the market is able to “melt up” this week VRX may very well go with it. The stock ran up sharply in May following news that it was acquiring Bausch & Lomb (formerly BOL), and that acquisition is now complete. After the news wore off, VRX pulled in and has built what looks like a normal base. This tight action along the lows appears quite buyable to me based on the prior week’s pocket pivots.




A number of solar stocks were on fire during May. Among them was another one of Tesla CEO Elon Musk’s creations, Solar City (SCTY), shown below on a daily chart. SCTY makes the solar panels that are used in TSLA’s supercharger stations and also leases solar panels to homes and businesses. SCTY doesn’t make money yet, but that didn’t prevent it from having a huge upside move in March. SCTY has pulled back in a big 38.1% correction off of its 52.77 all-time high achieved in May, but recently found support along its 50-day moving average. Like VRX, SCTY is rounding out the lows of a base that might turn out to be a deep cup formation. Interestingly, SCTY flashed a bottom-fishing pocket pivot on Wednesday as it poked its head back above the 10-day and 20-day lines. Something that might make SCTY playable on the upside here is that, as a prior red-hot stock, it has the potential to form a “Punchbowl of Death,” or POD formation. As some of you may know, this is a short-sale set-up once the stock reaches its prior peak. Using this idea, we might speculate that SCTY could run back up to its highs to form such a POD, and this actually creates the potential for a playable rally. I find that when this happens, the lows of a POD will often see a bottom-fishing pocket pivot signal the start of the move back up the right side of the deep cup or “punchbowl.” Thus this could be potentially buyable using the 10-day line as a quick selling guide.




This sort of “roundabout” action in the solar stocks is not limited to SCTY, as one of the “grand-daddy” solar stocks (at least on a relative basis!), Sunpower (SPWR), is also rounding out the lows of a new base it’s been working on since having a big price move in May as well. After pretty much doubling in the April-May timeframe, SPWR is working on what is so far a six-week base and found support earlier this week just above the 50-day moving average on the daily chart (shown below) and right at the 10-week moving average on the weekly chart (not shown). This was capped off on Wednesday with a very subtle pocket pivot as the stock came up through both the 10-day and 20-day moving averages. This is a little bit v-shaped, so I might expect the stock to pull back towards the 19-20 price area where it becomes potentially buyable in my view. As you can see, I’m looking at the market on a stock-by-stock basis, and as I discussed in my report of this past Wednesday, I’m not inclined to take a rigid bull or bear stance here given that QE is not over yet while a great deal of liquidity still remains in the system.




I’ve discussed Angie’s List (ANGI) several times since it had its pocket pivot buy point back in the first week of June, as we can see on the daily chart below. The stock has continued to move in a tight range along its 10-day moving average. Friday saw the stock trade heavy volume, probably due to Russell Index rebalancing, but the stock did close in the upper part of its range but just below the 10-day moving average. This isn’t a problem since you aren’t using the 10-day line as your selling guide given that ANGI has not shown a tendency to hold above that moving average for at least seven weeks. So far it seems to hold up around the 20-day moving average, as it did on Friday. If the market turns, this stock is likely going higher, As of June 14th, a peak of 9.7 million shares of the stock have been sold short vs. a float of 41 million shares, so there is plenty of short interest to help the stock along on the upside. ANGI is a bulletin board type of online bulletin board/review service, and its Internet Content industry group is currently ranked #8. The stock isn’t expected to earn a profit until next year when it estimated to post annual earnings of 38 cents a share. In my view the stock is buyable on the basis of last week’s pocket pivot using the 20-day moving average as your quick selling guide.




Constructive action among other stocks in the Internet-Content industry group, specifically these bulletin board/online review type of websites like ANGI, is helpful confirmation of group strength which is a clue with respect to future leadership in a new market rally phase, should that occur. Thus we see another such stock, Yelp (YELP) making its contribution to the group’s strength by breaking out this past week from a seven-week base that is also a breakout from a huge 15-month base the stock has formed since it came public in early March of 2012. In my view this is the type of “new merchandise” I like to see, particularly when it is emerging from a long-term consolidation. Back in late May, ANGI also emerged from an 18-month long-term consolidation that it started forming after it came public in November of 2011. When we see a group move developing, it certainly demands our attention, so I am a fan of both ANGI and YELP, and while they might be considered riskier stocks, in a new market rally they certainly become viable as potential new leaders. For members’ reference, I show the weekly charts of YELP and ANGI on the next page.








Here’s another one of these “roundabout” situations I’m talking about, Trulia (TRLA), a stock I last discussed in my report of May 5th when it looked to be breaking out from an oddly-shaped, cup-with-handle formation, as we see on the daily chart below. That breakout failed, likely due to the breakdown in housing stocks and its cohort, Zillow (Z), not shown. Z has been trying to round out a new base, however, and TRLA appears to be doing the same. There is some volume support along the lows of this current eight-week base, which is evident where the stock drops down 12 days ago on the chart to test the 27 price level before rallying to close up on the day. The number of funds owning the stock jumped from 97 to 155 over the most recently reported March quarter, and this current base has not seen huge selling along the lows. Friday saw the stock flash a bottom-fishing pocket pivot buy point as the stock came up through the 50-day moving average. TRLA is expected to post its first profit of 4 cents a share when it announces earnings in late July.




I think the big question regarding the pocket pivots that were observed on Friday, like we see in TRLA’s chart, is to what extent they were influenced by Russell Index rebalancing. This created some volume surges that showed up as pocket pivots, such as we see here in Cree (CREE). This is a pocket pivot of the 10-day and 20-day moving averages coming from a v-shaped recovery off the 50-day line. This might be a re-entry for CREE if one was stopped out on the steep 14% decline off of the prior week’s peak. Of course, I thought CREE was probably buyable, at least for a trade, off the 50-day moving average earlier in the week per my report of last weekend, and this current shakeout could help to set up another move higher. At the very least, it might be buyable using the 10-day/20-day moving average confluence as a quick selling guide, as the weekly chart show strong supporting action at the 10-day line.






Among some of the short-sale ideas I’ve discussed in recent reports, there hasn’t been a whole lot of profitable action aside from some quick downside breaks such as we saw in Celgene (CELG), but that stock is still hovering just below its 50-day moving average. When I look at the weekly chart of LinkedIn (LNKD), below, I’m hard-pressed to find any glaring weaknesses in the pattern. The stock did come back down through its 10-week moving average last week on slightly more volume, but volume that was still below average for the week. This week the stock drifted back above the 10-week line where it held. In general the selling has not been very heavy at all, and it may be that LNKD is another one of these “roundabouts,” as I refer to them, which are stocks trying to build the lows of a new base and which have the potential to possibly start trying to come up the right sides of new bases. LNKD is sort of on the fence here, but the pocket pivot move we saw two weeks ago (see June 16th report) might be seen as a sign of strength. Sure, if the market rolls over here LNKD might undercut last week’s lows, but in general it is not clear to me at this point that the stock is a screaming short-sale. It might just as well be another “roundabout” long.




Last weekend and in my mid-week report of this past week, I surmised that we might be seeing some developing late-stage, failed-base, short-sale set-ups in stocks like Stratasys (SSYS), Michael Kors Holdings (KORS), and Three-D Systems (DDD). I show a weekly chart of DDD, below, and we can see that the stock is still clinging to its 10-week line as it also remains above the 50-day line on the daily chart, not shown. While there have been some down weeks in what is so far a six-week base, given the market’s correction over the same period as well as the stock’s prior sharp run-up in early May, this is to be expected. Meanwhile I note that KORS showed a big supporting week this past week as it rallied off the 40-week line on its weekly chart, and SSYS is still holding above its 50-day moving average. I’ll leave it to members to check those charts for themselves. This pullback in DDD could simply be a buyable pullback to the 10-week line that forms a “high” handle to the prior deep cup formation. Again, this is sitting on the fence, and until and unless I see a high-volume breakdown through the 50-day line I cannot call this a short as it may very well be a long. In fact, I’m not averse to being long a small position here to see if the stock can hold the 10-week line.




The big question here is whether the market is simply going through an intermediate correction, or whether this will develop into something far worse. Right now the NASDAQ sits all of 3% below its May peak, while the S&P 500 sits 4% below its own May peak. So far the S&P 500 has corrected a total of about 7.5% based on this past Monday’s lows, while the NASDAQ has corrected a total of about 6.7% from the May peaks to the June troughs. This qualifies, so far, as an intermediate correction, and nothing more unless and until we were to break below the lows. Meanwhile the charts of individual stocks paint a more mixed picture, and I can see a lot of patterns that look constructive or where stocks at least appear to be building bases. Thus I might say that given the prior action in 2013, and the fact that QE is still in the system, I’m leaning more towards the long side in advance of any potential follow-through, so where I see a buy point or breakout crop up here I’m inclined to test a small position. I don’t think one can necessarily get into trouble here doing so, but keeping tight stops and maintaining flexibility will be critical. On the other hand, one can wait for a follow-through day to show up to confirm the start of a new uptrend, and I should say that follow-throughs in July and August certainly have a better track record than June follow-throughs.


In the meantime, I’m not inclined to get aggressively short unless I see a high-volume failure here, which is also a possibility. In that case I might focus on Celgene (CELG) as a short-sale target (see June 26th report) or even Biogen Idec (BIIB), which failed on an attempt to clear its 50-day moving average. This would be potentially shortable using the 50-day line as an upside stop.




Another failing bio-tech is Pharmacyclics (PCYC), which is failing at its 50-day moving average as well, and is starting to look like a late-stage failed-base short-sale situation. The bio-tech group has had a nice run over the past couple of years, and it may be ripe for further downside as a shortable group phenomenon. Ideally, I’d like to hit the stock on the short side into a rally back up to the 50-day line, as that would minimize risk and it could find support at the lows of this recent seven day range.




Among other shorts, Facebook (FB) continues to hold up, and on Friday flashed another pocket pivot type move, so for now this doesn’t look like it wants to reverse course any time soon. Apple (AAPL) pushed down to a low of 388.87 on Friday before finding some volume support and closing at 396.53. This looks like it could rally back up towards the 50-day moving average, and while I thought it could undercut the 385.10 April low, a successful retest of that low where the stock holds above it could be sufficient for a short-term low, at least.


Net/net, as they say, I’m leaning slightly to the long side here, but my commitments are relatively light, and I am happy to switch to the short side should this market rally fail. My expectation, however, is that a slow 4th of July holiday week will see some sort of “melt up” in the indexes, although there is certainly no guarantee of that. Again, it is a matter of remaining fluid and flexible, without having to maintain a rigidly bullish or bearish stance. 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


Editor’s note: Due to the shortened holiday trading week, The Gilmo Report will be published on Tuesday of this week instead of Wednesday. Please be sure to check the website for the next report on Tuesday at the usual time.

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 DDD, INVN, TSLA and VRX, though positions are subject to change at any time and without notice.


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