The Gilmo Report

March 27, 2016

March 26, 2016

It has only been one trading day since my last report, but that one day was an interesting one from the perspective of what was going on with certain individual stocks. For the most part, on the surface Thursday’s finish to the shortened pre-Easter holiday trading week came off as rather bland.

But underneath the innocuous close the action was much more interesting. The market started the day off with a nice downside gap that gathered some minor momentum early in the day before settling down and allowing the indexes to float back up to the “UNCH” line. Thus ended a three-day market pullback. In general, the pullback isn’t something we would consider to be unexpected. However, it was worth watching for signs of a possible market rally failure. In this regard there were some mixed signals, but the end result so far has been a somewhat normal pullback.

Of course, when I use the term normal I mean normal in the sense that it came with the usual unusual action in leading stocks that serves to create buyable pullbacks that don’t necessarily look like buyable pullbacks. At least not at the outset. Before I begin my customary babbling about the indexes, allow me to throw up a couple of interesting examples that might help explain what I’m talking about.

Maxlinear (MXL) looked like a shining new leader last week when it broke out of a cup-with-handle sort of base on strong upside volume. However, that particular breakout led nowhere as the stock inched higher over the next five days before splitting wide open early on Thursday.

Looking at this chart early in the day on Thursday, MXL was bee-lining straight for its 50-day moving average on heavy volume. The total decline was in excess of an instant 10% as the stock went from an opening price of 17.70 to a low of 16 in the first 10 minutes of the trading day. This of course sent the stock crashing through the 20-day line which coincides more or less with the prior base breakout point of seven trading days ago on the chart. By the time the stock was approaching its 50-day moving average it appeared to be in free-fall.

But out of nowhere, it sprouted Ugly Duckling wings and took flight, soaring back above the 20-day moving average by the close for a big upside hammer formation that closed in the upper third of the daily trading range. So here we had a buyable pullback to the 50-day moving average that didn’t look so buyable given the downside velocity seen in the first ten minutes of the day. The fact that there was no negative news on the stock to explain the unusual spin-out made it even more ominous.




MXL did manage to end the day three cents above its 20-day moving average, which theoretically puts it in a buyable position using the 20-day line as a tight selling guide. However, one might be inclined to give it a little more room to the downside given its extreme proximity to the line.

Objectively speaking, there is nothing orderly about this type of pullback, and it is not an easy one to buy into. In this market, however, there are times when resorting to extreme contrarianism and invoking the spirit of the Ugly Duckling seems to work. But you need the intestinal fortitude of a cliff diver. It doesn’t hurt to have luck on your side, either.

After all, when do you know when an extreme pullback can be bought at the 50-day line in the manner relevant to MXL was or whether you have something more like Smith & Wesson Holdings (SWHC) on your hands? Recall that SWHC was originally a buyable idea later in February (see my February 12th report). Once it broke out through the 26 price level I estimated that the stock could reach the $30 price level before any kind of significant pullback or consolidation commenced (see March 13th report).

When SWHC hit 30, that was a reasonable point to sell and lock in profits. And, as I discussed in my Wednesday mid-week report, after doing so it was probably best to leave the stock alone for a while and let it settle in at these elevated price levels.

As it turned out this was the correct course of action to take with SWHC, and would have enabled one to avoid Thursday’s hemorrhagic move down through the 10-day moving average. Ultimately, this break ended up giving back all the gains in the stock since it broke out of its little cup-with-handle base in early March. And all in one day!




With SWHC now right back at its prior breakout point, the $60 million question is whether this constitutes a buyable pullback. We should note that the sharp sell-off was a reaction to negative news coming from gun retailer Sportsman’s Warehouse (SPWH).

SPWH made some cautious comments Wednesday night regarding their gun sales, and this took all the stocks in the group down on Thursday. If the alleged sales slowdown is specific to SPWH, then this could send SWHC bouncing back to the upside. SWHC is a gun manufacturer while SPWH is a gun retailer, and I’m sure SWHC supplies to a very broad number of retailers.

At the very least, the pullback right to the top of the base puts the stock in a potentially lower-risk buy position using the 26 price level as a very tight selling guide. If nothing else, if one had taken profits at the 30 price level one is now able to calmly assess whether this sharp pullback represents an Ugly Duckling buying opportunity. Now on to the indexes.

Thursday’s morning sell-off took the NASDAQ Composite Index right down to its 10-day moving average where it was able to hold support and close up on the day on lighter volume. The longer-term daily chart of the index, below, shows a market that is roughly in the middle of a long, wide-ranging channel that extends back to the absolute market peak in the summer of last year. What is interesting to note is that if you connect the two absolute highs and the two absolute lows you get two perfectly parallel trend channel lines.

We could probably call this a monster trend channel where the index has had one massive, rapid breakdown that bottomed in August. This was then followed by a slower rally back up towards the highs in December and then another less rapid but even deeper breakdown in early 2016.

Once that breakdown bottomed in February, we have seen a relatively steep but steady rally that still falls short of the 200-day moving average. If we key on the very slight downward slope of the monster trend channel we might consider that the index has been in a wildly volatile corrective or even bear phase since the middle of last year.


GR032716-NASDAQ Composite


On a similar longer-term chart the S&P 500 Index doesn’t look all that much different. However, it has been able to clear its 200-day moving average, unlike the NASDAQ. On Thursday the index pulled back early in the day as it came near its 200-day line before finding support and pushing back up to the 10-day moving average on higher volume. Obviously, this has the look of support near the 200-day line, which is constructive.




Ultimately, however, we would have to conclude that we are not so much in a long-term trending environment as we are in a very wide and choppy price range extending back to last summer. Consistent with this range bound, trendless action we end up with a market that provides short-term trading opportunities.

Depending on the direction of the indexes at any particular time, such trading opportunities occur on both the long and the short side. Therefore, if we understand the nature of the beast we are dealing with, there is money to be made. You just have to know where to look for it.

If I’m looking for places to make money, so far I would have to say that gold has not been one of them. For the most part, gold had its sharpest move in 2016 while stocks were going down. Once stocks bottomed in the middle of February, gold’s rally came to a halt but its inverse correlation to stocks also ceased.

All the yellow metal has managed to do as stocks have rallied sharply off the February lows is hold up in a slightly longer than one-month consolidation. The daily chart of the SPDR Gold Shares ETF (GLD) holding along the lows of this consolidation at the 50-day moving average rises to meet up with it. My initial theory was that the rally in gold was due to anticipation of continued extreme monetary policy accommodation from the Fed in 2016, although some might have argued that its rise during the steep January-February sell-off was mostly due to a fear bid.

Now, as the Fed gives mixed signals and sounds more confused about the path of monetary policy in 2016, gold displays the same confused message. Currently I would have to say that I am not interested in taking a long position in the GLD, although I might look at a pullback to the 50-day moving average at 114.23 as a potentially opportunistic entry point.




The flattening trajectory of gold also brings into question whether any significant upside exists in the precious metals stocks. Silver Wheaton (SLW) has been getting pelted with higher on-balance selling volume but still manages to hold above its 20-day moving average.

Buying the stock here at the 20-day line is essentially a bet that gold will snap out of its current flat disposition and break out again. Thus I would keep a close eye on the dollar which has rallied higher, albeit in baby steps, over the past five trading days. A break back to the downside in the dollar could trigger a breakout in gold and gold-related stocks.




The uneven action of recent breakouts is also being seen in M/A-Com Technology Solutions (MTSI). In my Wednesday mid-week report I noted that the stock looked to be pulling into its 20-day moving average but that it “could move lower to test the 41.32 double-bottom breakout point.”

MTSI did exactly that as it dipped below the 20-day line on Thursday and reached an intraday low of 40.73 before rallying back above the line by the close. Volume came in at an extreme “voodoo” level of -57.9% below average. This puts the stock in an optimal, lower-risk entry position using either the 20-day line or Thursday’s intraday low at 40.73 as a tight selling guide.

In any case, MTSI shows us why it is best to shun chasing stocks on breakouts and instead look to take an opportunistic approach on any pullbacks to logical support. In this case, the pullback and slight undercut of the double-bottom base breakout point offered just such an opportunity on Thursday.




An example of how extreme contrarian opportunism that borders on spitting into the wind can pay off is seen in Fabrinet (FN). This was a stock I had previously discussed as a long idea as it was holding tight along its 10-day moving average following a buyable gap-up in early February. But the constructive action quickly morphed into destructive action as the stock made a sharp 11% downside break to its 50-day moving average. The day of the gap-down break to the 50-day line did not look like something any sane person would try and buy into.

But as it turned out, FN sprouted Ugly Duckling wings and immediately began flapping back to the upside. As the stock continued to rise right back up to its prior February highs, no pocket pivots or other buy signals were evident. At least not until the stock decided to break out on Thursday on heavy volume.

There was no news driving the move, but if you like standard-issue base breakouts then you’ve got one in FN. The trick here, however, was to close your eyes, hold your nose, and buy the stock right at the 50-day line three weeks ago. Now that the stock has broken out, perhaps a pullback to the 29 price level would offer a better entry if one is interested in the stock on the long side.




In hindsight I would have to say that one could have taken a position of extreme contrarian opportunism and just bought the stock at the 50-day line since one could always unload the position if it failed to hold the line. But this is not always so easy to do from a psychological standpoint when a stock is selling off in disorderly fashion as volume picks up sharply.

Perhaps the best lesson we can learn from FN is that its shake-out & breakout action might serve as an example for what might occur in names like MXL and SWHC following their wild spinouts on Thursday. And while we’re on the subject of wild spinouts we can take a look at Square (SQ) which came through for us in a big way when it rallied sharply on Monday. This move was also a strong-looking breakout from a cup-with-handle base. But as I’ve already discussed, the extent of the move (about 14% from Monday’s open to the Wednesday peak) made it something to sell into.

This would have left one unencumbered and open to the possibility of buying the ensuing pullback to the 12 price level and the 10-day moving average. As I wrote in my Wednesday mid-week report, that was certainly a viable approach, particularly if one had already locked in a profit on the prior upside jack.

One conclusion I can draw based on SQ’s action so far in March is that when this thing pushes up towards the prior post-IPO highs from last year it definitely runs into some motivated sellers. Note, however, that the selling volume on Wednesday was less than the selling volume seen two weeks ago.

So we might conclude that SQ is trying to work off some of this overhead congestion from buyers who went long the stock as it formed a post-IPO flag pattern back in November-December of last year. Therefore, if we see volume dry up as the stock hangs in above the 10-day line and the 12 price level it may very well be buyable here.




In my Wednesday mid-week report I speculated as to whether SQ was just another example of Cinderella coming to the ball no more than once. However, I would have to amend that assessment and say that if it can hold this recent breakout it may eventually be able to work through the overhead congestion on the right side of the chart and proceed higher. I’m willing to give it that chance.

SQ’s cousin Vantiv (VNTV) provided an opportunistic entry on Thursday as it pulled right into its 10-day moving average on light volume. The stock showed a little resilience off the line as it closed near the mid-point of its daily trading range. This is a pretty simple proposition here. One buys the pullback using the 10-day moving average at 52.02 or the 20-day moving average at 51.68 as tight downside selling guides.




Facebook (FB) helped to correct its slight wedging action on Thursday when it pulled into the 10-day moving average on light volume. As I discussed in my Wednesday mid-week report, a pullback into the 10-day or 20-day lines would help to achieve this. In addition, such pullbacks would also provide lower-risk entry points for the stock. From here my assessment remains the same. Pullbacks to the 10-day line at 111.43 or the 20-day line at 109.82 remain your lowest-risk entry points while using the 20-day line as a tight downside selling guide.




First Solar (FSLR) is giving us the Ugly Duckling eye here as it again tested its 50-day moving average on Thursday. The bounce lacked any meaningful volume, however, which might cause some to shy away from trying to buy this pullback into a logical area of support.

But we might consider that FSLR has been bumping up against the highs of a large consolidation it has been building since March of 2014. This might present some resistance, although I would imagine that most of it has likely dissipated in two years’ time. As well, selling volume on the weekly chart, not shown, has steadily declined since late December when the stock first pushed up into the 70 price area.

Therefore, I think it is possible to take the Ugly Duckling approach and view the stock as buyable here just above the 50-day line. This takes advantage of the proximity of the 50-day line which serves as a reasonably tight downside selling guide.




When it comes to solar names, most of which look pretty ugly currently, I note that SolarEdge (SEDG) undercut its 23.21 low of February 24th on Thursday when it reached an intraday low of 23.01. This also took it down to the lows of its current three-month consolidation. And so the undercut turned into a rally and SEDG ended Thursday up 14 cents at 24.24.

We’ve seen SEDG start to look quite ugly many times over the past three months, even to the point where it has substantially busted through all of its major moving averages. But each time, it has found its webbed Ugly Duckling feet and rallied back to the upside. So perhaps it’s not such a good idea to try and buy this thing in a constructive position within its chart or on a display of strength. Maybe would be better advised to buy this near the lows of the three-month price range using a less orthodox undercut & rally approach.

Before you want to have me certified as a candidate for the local nut house, take a look at the prior steep sell-offs in SEDG over the past three months. Each time the stock has found its feet and rallied back to the top of the range. Therefore, if we choose to invoke the Ugly Duckling and buy SEDG here, the 23.02 low of Thursday provides as tight a stop as you can ask for. I’ll leave it at that.




Mobileye (MBLY) has now come all the way back to its 20-day moving average as it round trips the sharp upside move it had last week off of the line. As I wrote last weekend, that rally looked to be stalling and running out of gas around the 38 price level, indicating that taking profits on any position taken at the 20-day line last week should be banked.

And as I discussed in my Wednesday mid-week report, a breach of the 20-day line might bring MBLY back into play as a short-sale target. That certainly looked like a possibility on Wednesday and Thursday as the stock briefly undercut the line on an intraday basis.

Now the stock sits at a point where it has pulled into the 20-day line as volume remains extremely light. Technically, this would put the stock in a lower-risk buy position right at the line. If it can hold the line on Monday, this could be tested on the long side using the 20-day line at 34.12 as a very tight selling guide.




Otherwise, when it comes to MBLY and any other Ugly Duckling type of set-up we’ve been following in recent reports, a high-volume breach of the 20-day line would be the first concrete sign of potential failure to the downside. In my view, the fate of these Ugly Ducklings is likely firmly entwined with that of the general market. Thus, if the market rally continues, they stand a good chance of continuing to rally with it. Otherwise, if the market rally fails, they likely become some of your best go-to short-sale targets.

Objectively, however, I would have to say that I am not seeing much evidence of failure in any of these Ugly Ducklings I’ve been discussing in recent reports. In most cases, pullbacks appear to be normal. In addition, they seem to create optimal buying opportunities. An example is (CRM) which had previously been wedging up into its 200-day moving average. On Thursday it pulled back to test its 20-day moving average but held, closing up on the day. Volume came in extremely light.

Thus this action looks more like a constructive pullback to the 20-day line that also serves to correct the previous wedging action. This looks buyable using the 20-day line at 70.75 as a tight selling guide.




If we look at CRM’s weekly chart we can see this extreme, v-shaped rally off of the February lows that has wedged right up into the 40-week moving average. It is also moving up into the middle area of a base it formed between May and October of last year. Notice, however, that the stock closed tight this past week, with the weekly range tightening up on declining volume. Even adjusting for the shortened trading week, volume was still lighter for the week.

CRM could easily bust through its 200-day moving average on some sort of pocket pivot move. It could also fail here at resistance along the 200-day/40-week moving averages. The only concrete indication of such a failure, however, would have to come in the form of a high-volume breach of the 20-day moving average.

So while the daily chart looks rather bullish, the weekly chart raises some questions. However, I think those questions can be addressed by taking a bifurcated view of CRM based on how the real-time price/volume action plays out. In other words, play it as it lies.


GR032716-CRM Weekly


Another example is Workday (WDAY). Here we see the stock moving tight sideways in a position just below its 200-day moving average. Like CRM, it held on a pullback to its 20-day moving average on Thursday as volume remains quite low. Notice that while volume came in at what I would consider to be “voodoo” levels at -52.4% below-average on Thursday, it still picked up slightly in a show of support near the 20-day line. Therefore this looks quite buyable using the 20-day line at 69.60 as a maximum downside selling guide.




On the weekly chart we can see that WDAY is actually holding up in a tight flag formation that could be considered a three-weeks-tight or 3WT formation. Of course, this is also forming just under a major line of potential overhead resistance, namely the 40-week moving average. So while we might be getting mixed messages here as well, there is a concrete way to deal with the uncertainty with respect to how this might play out. A high-volume breach of the 20-day line would bring this back into play as a short-sale target.

Meanwhile, what we see on the daily chart above appears to argue for a near-term resolution to the upside based on the current and precise price/volume action.


GR032716-WDAY Weekly


Splunk (SPLK) looked like the most vulnerable between itself, WDAY, and CRM, as I discussed in my Wednesday mid-week report. This is primarily because it had been in a steady, wedging ascent since clearing its 50-day moving average back in early March.

On Thursday, however, SPLK pulled in to test its 20-day moving average (are you starting to see a theme here?) on very light volume and held, closing up on the day. This pullback serves to correct the prior wedging action and brings the stock into play on the long side using the 20-day line at 45.83 as a downside selling guide. If one wanted to implement a tighter stop-loss strategy, then using the 10-day line at 47.49 as your selling guide is prescribed.




SPLK’s weekly chart shows the stock closing three-weeks-tight over the past three weeks as it holds up in a position that is somewhat below any overhead congestion areas. This looks constructive, and in conjunction with what we see on the daily chart above, argues for a bullish resolution.

But, as would also be the case with CRM and WDAY, a high-volume breach of the 20-day moving average would likely bring this back into play as a short-sale target. But all of these stocks held low-volume pullbacks to their 20-day lines on Thursday, which is bullish. That can change, certainly, but if it does it is simply a matter of assessing this on the basis of the real-time price/volume action according to the parameters I have already set forth.


GR032716-SPLK Weekly


And in this market we might also take into account that even when stocks look like they are failing outright they can suddenly become infused with the spirit of the Ugly Duckling and launch right back to the upside. Case in point is (AMZN). Last week AMZN was looking like it was ripe for a move towards the neckline of its large head and shoulders formation down around the 480 price area. But a funny thing happened on the way to the neckline: It undercut its prior March low and rallied back up through its 50-day/10-week and 200-day/40-week moving averages.

Now the stock is back up near the highs of its four-week price range just above the 580 price level. The only concrete way to buy this would have been on an undercut of the prior March low at 547.90 on Monday of this past week. In my latest book, “Short-Selling with the O’Neil Disciples” I discuss how textbook H&S patterns can fail to play out on the downside and end up resolving bullishly rather than bearishly. And it is usually the action on the daily chart that provides you with the necessary clues.

With AMZN now at the highs of its four-week price range it looks poised to break out following this past Monday’s shakeout. However, if it encounters resistance here at the highs of the range, another test of the moving averages may be forthcoming. For now I don’t consider the stock to be in an optimal position for an entry on the long or short side. But as a big-stock NASDAQ name it will be one to keep a close eye on, as its future direction will likely be determined by the direction of the general market from here.




In this market, most patterns that start to look bearish end up resolving in a more bullish than bearish manner. Based on my prior discussions of Apple (AAPL) as it rallies right up into the neckline of a big head and shoulders formation it has formed since late 2014, I’ve been looking for something concrete to show up on the bearish side.

However, as we can see on the char below, AAPL isn’t showing any signs of giving up on the downside just yet. In fact, on Thursday the stock pulled into its 10-day moving average on very light volume and held. This gives the impression of something that is more of a buyable pullback as opposed to a move that would persuade me to short the stock right here. This may still be able to rally up to the 200-day line if the general market rally continues. So barring any concrete evidence to the contrary, I am still waiting to see if and when AAPL becomes shortable again.




Netflix (NFLX) is yet another one of these Ugly Duckling situations that remains in an unresolved position. On Thursday the stock dipped below its 20-day moving average before managing to close back above the line on increased but below-average volume. This gives the impression of supporting action around the line following a shallow four-day pullback. Thus the action appears constructive and may indicate that the stock is going to make a run for its 200-day moving average at 105.93.




Tesla Motors (TSLA) had popped right back up into its 200-day moving average, which theoretically brings it into optimal short-sale range. After reversing back down through the 200-day line on Wednesday, TSLA found support near its 20-day moving average on Thursday before reversing back to the upside.

While this is in a shortable position right here, using the line for the purpose of determining a tight stop is advised. TSLA has had one prior sharp pullback in its meteoric rise off the February lows when it yanked into the 10-day and 20-day lines in early March after reversing at the 50-day moving average.

That pullback turned out to be a buyable one, so there is no guarantee that this past week’s pullback won’t play out in a similar manner. Short interest in the stock remains very high at 32.2 million shares as of the March 15th filing date.




Below are my current notes on other names I’ve discussed in recent reports:

Alaska Air Group (ALK) – dipped below the 10-day moving average on Thursday but held the 20-day line on below-average volume. If you’re going to try and step in on this one on the long side, buying as close to the 20-day moving average at 78.73 as possible seems to make the most sense given the stock’s extremely extended position from its early February lows.

Broadcom (AVGO) – pulled into the 10-day line this past Thursday and held on light volume. In a buyable position using the 10-day line at 151.17 as a very tight selling guide.

D.R. Horton (DHI) – held right at the 200-day moving average at 29.03 on Thursday as volume came in very light. This is a lower-risk entry using the 200-day line as a guide for a tight downside stop.

GoDaddy (GDDY) – moving tight sideways along its 20-day moving average where it showed some minor supporting action after dipping below the line early on Thursday. This remains in a buyable position using the 20-day line at 31.35 as a selling guide.

Hawaiian Holdings (HA) – still holding tight at the 10-day line. Would prefer to take a more opportunistic stance here and wait for a pullback into the 20-day moving average at 44.60 as a better potential entry. Otherwise the stock is extended from its recent breakout point near the 40 price level.

Nvidia (NVDA) – still extended from its recent breakout at the 33 price level. Pullbacks into the 10-day line at 33.31 or the 20-day line at 32.62 would offer your best lower-risk entry opportunities.

Silicon Motion (SIMO) – still extended. Pullbacks to the 10-day line at 35.51 or the 20-day line at 34.70 would present lower-risk entries from here.

Southwest Airlines (LUV) – Pulled into the 20-day moving average at 42.98 on Thursday, which represents what is probably the best lower-risk entry for anybody who finds the stock too compelling to pass up.

As I discussed in my Wednesday mid-week report, I was a bit cautious on the market at that time. Thursday morning started out looking like it was confirming that caution based on the opening gap-down as well as a number of pullbacks that were occurring in leading stocks, including names like MXL, SWHC, and others.

But as I also discussed in my last report, such caution does not imply a bearish outlook. It implies the continuation of my favored approach whereby we seek to sell into strength and buy into weakness. Buying on weakness ensures that we can keep a tighter leash on our risk, and also gives us the best chance of making reasonable profits on the upside.

On the other hand, we are already well-acquainted with the harsh reality of chasing strength. Therefore an opportunistic approach to the market is both sensible and cautious as it helps to lock in profits when we have them while seeking to limit risk by taking advantage of opportunistic entry points at or near areas of logical support.

In answer to those who have posed the question to me, I would have to say that yes this is one of the most challenging markets I’ve ever faced. But I don’t see that as a convenient excuse for failure. This market can be conquered if one is willing to understand the beast they are dealing with and adjust their methods accordingly. I know this because I have been able to make steady upside progress so far in 2016. In my view, that is the proof in the pudding.

So if we distill this past week’s action down to a few basic points we can come to a few general conclusions. The general market indexes have pulled back over the past few days in a move we’ve been expecting and looking for. In the process, the market appears to have brought a number of stocks into potentially lower-risk entry points on the long side. Meanwhile, I am hard-pressed to find much that is concretely setting up on the short side.

Therefore the initial response should be to take advantage of these pullbacks as we see where the market goes from here while keeping a tight handle on risk. As I see it, that is enough to act on for now until we see concrete evidence to the contrary.


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

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