The Gilmo Report

March 22, 2017

March 22, 2017

The Icarus Rally finally felt the effects of getting too close to the sun yesterday with all the major indexes melting down over 1% across the board. For those keeping count, this was the first time in 110 days that we’ve seen a market pullback of 1% or more, and heavy selling volume didn’t disappoint in this regard.

Last week’s breakdown in financials was likely a harbinger of this week’s action. And as the financials have come apart this week, so has everything else. This resulted in a clear change of character yesterday, which is quite evident in the daily chart of the S&P 500 Index, below.

Sellers swarmed the index, sending it to lower lows. But the S&P, not willing to roll over and play dead just yet, made a brave attempt to stabilize today, holding up slightly as volume receded. However, the index found resistance just underneath its prior February and March lows.

 

GR032217-$SPX

 

The NASDAQ Composite Index was likewise slammed to the downside yesterday on heavy volume. This also sent it below all the prior February and March lows, from which it attempted a typical undercut & rally maneuver today that was slightly more successful than the S&P’s. The NASDAQ finished the day in the green and up 0.48% vs. the S&P’s 0.19%.

While the undercut and rally move in the NASDAQ today could be constructive, the action still has at least a cautionary look to it. And, of course, one’s experience in the market is still largely dependent on what they are long and/or short, and when they are long or short it. In the meantime, the situation remains fluid, and tomorrow’s healthcare legislation vote could provide the news fuel for a move in either direction. So, we’ll all have to stay very alert as we (all together now) watch our stocks.

 

GR032217-$COMPQ

 

I wrote over the weekend that the action in the financial sector was either flashing a big warning signal or that a major rotation into other areas was necessary for the market rally to continue. Last Friday’s action made most financial names appear to be “nascent short-sale targets,” as I wrote over the weekend.

Two of the big-stock names in the group, J.P. Morgan (JPM) to Goldman Sachs (GS), were the focus of my discussion over the weekend. Below I show the daily chart of GS, which illustrates how a live action short-sale set-up looked at the point of impact on Monday. GS bounced off its 50-day moving average early in the day, but then reversed below the line. This immediately put it into play as a short-sale target at that point using either the 50-day line or the intraday high as a guide for an upside stop.

From there the stock blew to pieces yesterday, and then ignored the market’s gyrations today by simply continuing lower. It is now in position to undercut the early February low at 227.05. A nice short for those alert to it, and one that occupied this same space at the beginning of my last report.

Now GS is obviously quite extended to the downside as it approaches the early February low at 227.05. You can study other financials’ charts, such as BAC, JPM, WFC, C, etc. to see how all of these are approaching or even undercutting prior lows in their patterns, so I’d watch for a reflex bounce in these names from here.

 

GR032217-GS

 

The trick here is figuring where, if at all, the market might be rotating toward IF indeed the movement of money out of financials needs to find a new home. Corrections and pullbacks in this market have often resulted in rotation into other areas of the market, and the rotation is generally not defined by what is breaking out.

As an example, we can see that recent hot IPO gone cold Snap (SNAP) is starting to get exciting here as it flashed another undercut & rally long set-up this morning when it opened above 20.64, the prior low in the pattern. That set up a buy at that point, using the 20.64 price level as a guide for a tight stop. In most cases, speaking for myself, I will use that plus another 20 cents or so as a selling guide.

SNAP has tended to be volatile since coming public back in February, so giving it a little “porosity” on the downside is generally a good idea. I always figure that if I can’t afford to lose 1-3% on a trade, I shouldn’t’ be trading in the first place. So, with those parameters in mind the risk on the trade was more than reasonable, in my view. By the end of the day SNAP closed above its 10-day moving average on what was not only an undercut & rally move but also a bona fide pocket pivot.

In this case, we can move our selling guide up from the 20.64 prior low to the 10-day line at 20.88 just to keep things tight.

 

GR032217-SNAP

 

My “IPO Model Stock” for SNAP right now is the venerable (now old in IPO terms) Japanese internet name, Line Corp. (LN). The chart I show below covers the period from July through August of last year.  We can see that LN, like SNAP, went into a relatively steep decline just after its IPO day. But by the 12th day of trading, LN had set a low, undercut that low, and then pushed back above it in an undercut & rally move.

The U&R move didn’t result in a rapid move back to the upside as the stock baby-stepped its way higher from there. That, however, that action eventually percolated into a gap-up move a few days later, a two-day pullback, and then a small cup-with-handle breakout.

SNAPs IPO U&R move came on its 15th day of trading since coming public, but seems to have more thrust that LN’s did back in the summer of last year. As a new-merchandise play with the potential to become a big stock, I have to like SNAP right here, although it was buyable on the U&R move and closer to the 20.64 price level per my comments on the stock in recent reports.

 

GR032217-LN

 

When the market starts to pull off the highs as hard as it has over the past couple of days, stocks on your long watch list must be watched carefully. The psychological tendency for most investors, especially if the market sell-off pushed them out of a couple of positions, is to go sit somewhere in the dark licking their wounds.

But for all you know, that will just cause you to miss an entry in a long idea you have been looking to enter, or a re-entry in something out of which you were just stopped. During market pullbacks, your most potent weapon on the long side is the undercut & rally set-up, also known as Wyckoff’s Spring.

Case in point would be JD.com (JD), which got hit with some above-average selling volume yesterday. That led to an undercut of the prior 29.96 low in the pattern from early March, resulting in a reasonable rally back up through that low and a 30.58 closing print today. Therefore, JD is buyable here based on the U&R while using the 29.96 price level as a tight selling guide.

This is what I mean when I say that market pullbacks require one to be opportunistic, alert, shrewd, crafty and brave not only on the short side but also the long side. That is because many strong long opportunities can show up when the general market looks weak, as the example of SNAP also helps to illustrate.

 

GR032217-JD

 

Netease (NTES) can also be looked at in a similar manner after undercutting the lows of its March price range. In my view this remains a two-sided affair, and depending on where the general market goes from here could be in an undercut & rally buy position or a short position right here at the 20-day moving average.

We can see that yesterday’s volume did not constitute intense selling since it was only average for the day. Therefore, the rally back up through the 282.92 low in the March price range. A move up through the 20-day line would help to confirm the U&R set-up, while any volume reversal at the line would potentially bring the stock into play as a short-sale target

 

GR032217-NTES

 

As far as the other China Five go, these are my current notes below. Note (no pun intended) that in some cases the stocks have simply pulled into areas of support. If the market turns, they could very well turn with it:

Alibaba (BABA) also provided an entry point for those who seek to buy on weakness as it pulled into its 20-dema today on light volume. Buying shares at that point provides a nice lower-risk entry opportunity, while using the 20-dema as a tight selling guide. Far better than buying Monday’s breakout to higher highs.

Momo (MOMO) has been extended, but did find support near its 20-dema yesterday. I would prefer to see it pull back closer to the line at 30.83 as the lower-risk alternative entry point.

Weibo (WB) is still stuck in doggie-land as it sits below its 10-day, 20-day, and 50-day moving averages. This still must be looked at as a short-sale target, using rallies up into the 20-dema at 50.12 as short-sale entry opportunities. Unless we see a strong-volume back-up through the 50-day line, the situation will remain as it is now – WB is a short.

We can also extend the “watch your watch list” mentality to something like Square (SQ). Like NTES, the price break in SQ yesterday came on slightly less than average daily volume, so cannot be considered to be intense. That led to a move below the prior 16.32 intraday low of the late February buyable gap-up (BGU) this morning. Sellers failed to swarm the stock, and it then drifted back to the upside to close in the upper part of its daily trading range and back above the 16.32 price level. That made it buyable at that point, using the 16.32 price level as a selling guide.

 

GR032217-SQ

 

In NASDAQ big-stock land, we’ve seen Tesla (TSLA) now do its best to morph back into a short-sale target after breaching its 50-day moving average yesterday on heavy selling volume. On its face, that price/volume action keeps the fractal head and shoulders formation in play.

But as I blogged yesterday, there is always the alt-U&R set-up that is based on an undercut and rally back up through a moving average instead of a prior low in a stock’s chart pattern. Today we saw TSLA regain the 50-day line, but on light volume. So, this is in flux here, and could go either way.

It closed just one penny below the 20-day moving average today, but for those who are true believers there is always the option of testing this on the long side based on the alt-U&R set-up while using the 50-day line or today’s intraday low near 250 as a tight selling guide. Otherwise, a volume break back below the 50-day line brings this into play as a short-sale target again.

 

GR032217-TSLA

 

Netflix (NFLX) is a sort of beauty and the beast example as it went from looking strong yesterday at the open to looking like an ugly beast (or a duckling) by the close. The stock posted a brutal-looking outside reversal to the downside on heavy selling volume in a bearish reversal off the highs.

Of course, the extreme ugliness did not lead to further downside. Instead, NFLX pulled into its 50-day moving average where it found support today. So, one could have stepped in and bought shares at the 50-day line, assuming one was opportunistic, resourceful, shrewd, crafty, and, most of all, courageous. In this market, your best long opportunities occur on weakness. And buying on weakness as close to a major support level like the 50-day moving average minimizes risk relative to chasing strength such as we saw in NFLX early in the day yesterday.

 

GR032217-NFLX

 

Notes on other big-stock NASDAQ names:

Apple (AAPL) looked ugly yesterday on a reversal off the peak on heavy selling volume, but held its 10-day line today. Therefore, stepping in at the line just below 140 would have constituted a lower-risk entry opportunity for the bold while using the 10-day line as a tight selling guide.

Amazon.com (AMZN) got hit with selling volume yesterday as it also posted a big outside reversal to the downside and off yesterday’s new-high peak early in the day. That was ugly action, but today it found support at the 10-week moving average on the weekly chart before rallying back to the upside. The stock closed two cents below the 20-dema.

Alphabet (GOOGL) looks the ugliest of the big-stock names I’ve been following recently. It was nailed yesterday on huge selling volume as it plummeted below its 20-dema. Today it tried to rally but reversed at the 20-day line to close down again. Volume was lighter, however, but a volume breach of the 50-day line at 843.16 could morph this into a short-sale target.

Facebook (FB) is yet another big-stock name that posted an ugly outside reversal to the downside after moving to new highs early in the day yesterday. However, it found support today at its 20-day moving average, which would represent a lower-risk entry point for those alert to it.

Priceline Group (PCLN) acts somewhat orderly here although it did dip below its 10-day line yesterday. Today it held above the 20-dema on a small pullback.

On balance, it’s hard to say whether any of these stocks are fully out of the woods. While yesterday’s ugly action in several of these didn’t lead to further downside today, more general market weakness could send them lower. In the near-term, given that these are all what we would call market stocks, the general market direction from here will no doubt determine their future fate.

Nvidia (NVDA) is an interesting situation given that it seems to be acting reasonably well. While yesterday’s reversal on above-average selling volume was bearish, it managed to hold above its 50-day moving average today as volume receded. Two weekends ago I noted that the stock appeared as if it wanted to rally, and that’s what we’ve seen over the past week or so.

The rally was based on a double undercut & rally move that was accentuated by a pocket pivot at the 20-day moving average four days ago on the chart. Could this be forming a big double-bottom? Perhaps. Could it fail here and head lower? Again, perhaps. This remains in flux, but the action as it hangs along the 50-day line with volume declining looks constructive. As with most of these situations, however, where the general market goes from here will likely figure into what NVDA does from here. It is one to keep a close eye on, in my view.

 

GR032217-NVDA

 

If you’re in the right names within the group (CIEN, FN, or FNSR as examples), the opticals have held up well during the market gyrations so far this week. Applied Optoelectronics (AAOI) could care less about what the indexes do as it posted a strong-volume pocket pivot today off its 20-day moving average and back up through its 10-day moving average.

Impressive action, if you ask me, but as I wrote over the weekend, pullbacks in AAOI down to the 20-day line would offer your most opportunistic entry points. Of course, whether one is brave enough to step in and buy the stock when market fear is heightened is another issue.

But, again, I would emphasize that if you see a stock at a critical support level, you can easily test a long position provided you adhere to the idea of using that same critical support level as a tight selling guide. In that sense the trade becomes fairly mechanical as long as you simply ignore whatever emotions might be swirling around in your head.

 

GR032217-AAOI

 

Both of my other active long ideas in the opticals space, Arista Networks (ANET) and Lumentum Holdings (LITE) also continue to act constructively. ANET remains a bit extended on the upside, while LITE gave opportunistic buyers a shot to take shares near the 10-day moving average this morning. I would continue to keep these on your long watch list, looking for pullbacks as your most opportunistic entry opportunities.

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, 20-day exponential, 50-day simple and 200-day simple moving average.

Notes on other names discussed on the long side in recent reports below. In most cases, you will see that these stocks found support at logical points in their charts:

Activision (ATVI) found support at its 20-dema today.

Carnival Cruise Lines (CCL) found support near its 20-dema today and rallied strongly back to the upside on a pocket pivot move. I still prefer to enter on weakness rather than chasing strength, and if one had bought the stock near the 20-dema today one would have participated in the ensuing strength without having to chase it.

Checkpoint Software (CHKP) found support at its 10-day and 20-dema lines today and actually broke out to a new high on below-average volume.

Clovis Oncology (CLVS) found support at its 20-dema today, which was a lower-risk entry point for those alert to it. It also held above its recent base breakout in the process.

Electronic Arts (EA) is sitting right on top of its 20-dema after pulling into the line over the prior four trading days. Volume declined today, so this would put this in a potentially lower-risk entry position using the 20-dema at 88.49 as a tight selling guide.

Glaukos (GKOS) is forming a neat little cup-with-handle formation and found support near its 10-day line today. I would look for pullbacks to the line, now at 46.79, as your best lower-risk entries.

Incyte Pharmaceuticals (INCY) has pulled into its 20-dema where it held on above-average volume. This would put it in a lower-risk entry position using the 20-dema at 139.87 as a tight selling guide.

Royal Caribbean Cruise Lines (RCL) posted a pocket pivot at its 10-day and 20-day moving averages today. It was, of course, best bought on the pullback to the 20-dema.

Salesforce.com (CRM) is a bit sloppy here as it breaks below its 20-dema. It is, however, sitting at its 10-week moving average which could put it in a lower-risk entry position using the 50-day line at 80.29 as a nearby selling guide.

ServiceNow (NOW) blew apart yesterday. This pattern is busted and is morphing into a short-sale target, using rallies up to the 50-day moving average at 88.12 as optimal entry opportunities on the short side.

Splunk (SPLK) is clinging to support at its 50-day line. This could offer a lower-risk entry spot using the 50-day line at 60.09 as a very tight selling guide. I would keep an eye on other clouds like CRM since the group could move together.

Symantec (SYMC) found support near its 20-dema yesterday. Watch for pullbacks to the line at 29.85 as lower-risk entries.

Take-Two Interactive (TTWO) undercut the prior 56.79 low of February 27th yesterday and rallied back above the low today. This is an undercut & rally set-up using the 56.79 price level as a selling guide.

Veeva Systems (VEEV) has been on fire recently, and a pullback to its 10-day line resulted in a sharp bounce to the upside. The pullback to the 10-day line this morning was the time to take shares, and I would only be willing to buy the stock on any further pullbacks into the 10-day line from here.

I would continue to keep names like Delta Airlines (DAL), U.S. Steel (X), Diamondback Energy (FANG) and GrubHub (GRUB), as well as others discussed in recent reports, on my short-sale watch list. All of these should simply be monitored for shortable rallies or triggers, such as we saw yesterday in X. GRUB was also sitting in shortable position yesterday for those alert to it as it pushed above its 20-day moving average early in the day. It then flipped over and reversed back to the downside. This of course begs the question as to how one would handle something like this.

 

GR032217-GRUB

 

The answer, of course, is quite simple. By keeping a close eye on your short watch list you will see a name like GRUB when it pushes above a key moving average. In this case this was the 20-day line. Using the 620-five-minute intraday chart, one could determine a possible entry on the short side once a MACD “stretch and cross” was evident.

Note that this occurred well before the moving averages gave a confirmed 620 sell signal and at a higher price. This is where using the MACD cross as a potential, early entry on the short side has its advantages. If the stock moves against you, however, you must use the intraday high as your upside stop.

In this case GRUB cooperated nicely, mainly because of the associated general market weakness, and a moving average cross occurred about 30 minutes later to generate a confirmed 620 sell signal. I went into detail about how I use the 620 chart under various conditions to time short-sale entries during this past weekend’s Mini-Conference and Trader’s Dinner. This is another example of how I do this.

 

GR032217-GRUB Intraday

 

Yesterday’s action could be a warning shot across the bow, but we also must keep in mind that after a strong uptrend throughout 2017 the indexes are prone to pullbacks. Give investors an excuse to take profits and they likely will take it. That may be what we saw yesterday, although I would not draw any firm conclusions.

My approach here is to simply review my long and short watch lists in detail, and determine where and how the set-ups on the long or short side might occur under both bullish and bearish market scenarios. In this manner, I can develop a trading plan that is both flexible and opportunistic, regardless of what the general market does.

In other words, be ready for anything. If you think about it, my closing comments in this past weekend’s report were somewhat prophetic: “I think that maintaining a flexible and opportunistic approach by considering stocks more buyable in the lower reaches of their patterns as opposed to the upper reaches can keep one out of trouble. And if we do start to see the market pull back, buying as close as possible to areas of near-term support is the best recipe for limiting downside losses.”

That still applies, and for that reason we must keep an even psychology here, remaining open to the set-ups as they show up in real-time. The best way to buy stocks in this market is on weakness, so we must be alert to opportunistic entries on the long side if this current bout of weakness turns out to be temporary.

If it isn’t, then the first place to look for short-sale targets, for those oriented toward playing the short side, would be among names on your long watch list that are starting to break down. For those not oriented toward the short side, raising cash would then be the appropriate response as one heeds their stops and trailing stops.

In this manner, we follow the advice of Bill O’Neil who once told me, “Never operate from a position of fear.”

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 positions in JD, SNAP, and SQ, 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, 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. ©2008-2018 Gil Morales & Company, LLC. All rights reserved.