The Gilmo Report

May 11, 2014

May 10, 2014

The Dow Jones Industrials Index, not shown, made an all-time closing high on Friday, further underscoring the bizarre divergences that exist in this market currently. With the Dow at a new closing high, the S&P 500 Index ETF (SPY), a proxy for the index itself, shown below on a daily chart, remains within spitting distance of a new all-time high as it continues to hold along and find support at the 50-day moving average. This past week we saw some leading oil stocks start to break down, such as Continental Resources (CLR), not shown, a stock I discussed back in my April 2nd report. This, however, hasn’t deterred the S&P 500’s stubborn ability to hold its 50-day line.




Meanwhile, the NASDAQ Composite Index, shown below on a daily chart, continues to bounce along the lows of the past three weeks as it holds above its 200-day moving average. On the weekly chart, which I don’t show here, the NASDAQ is finding support right at the 40-week moving average, so it remains in a position where it could still bounce back up to the highs of its recent month-long range at around the 65-day exponential moving average. Big-stock NASDAQ former leaders are deep down in their patterns currently and any kind of natural reaction rally off the lows could help fuel a bounce from here in the NASDAQ.





If we consider the possibility that the NASDAQ is building a longer-term top, we might go back to the last major market top in 2007-2008. We’ve looked at this chart of the NASDAQ from that period before over the past couple of months, and we can see that once the index hit the 200-day moving average it spent an entire two months bouncing around in a big sideways range before rolling over again. The major difference between now and then is that in late 2007 the S&P 500 was acting much weaker than the NASDAQ whereas today the S&P 500 is flirting with all-time highs! Unless we see the S&P 500 break down through its 50-day moving average in decisive fashion, the NASDAQ will likely continue to bounce around without breaking to a new low.


GR051114-NAZ 2008


If we run through several daily charts of our current short-sale targets, we can get a sense of how deep down in their patterns many of these stocks are. For example, Netflix (NFLX) continues to bounce along its recent lows after finding support at its 200-day moving average earlier in the week. This was not followed up by further heavy-volume selling, so another test of the 200-day moving average seems like a distinct possibility. NFLX could even rally past the 200-day line and up towards the 50-day moving average which would be consistent with the formation of additional right shoulders in an expanding head and shoulders formation. It is not uncommon for a big-stock former leader to form several right shoulders as the general market consolidates its first break off the peak as the NASDAQ Composite is currently doing. Thus I would keep a tight trailing stop at Friday’s highs.




I woke up on Thursday morning to find that my short-sale position in Las Vegas Sands (LVS) was set to gap down below the 73.01 low of the prior week on news that Macau’s gambling authorities were going to restrict ATM activities at Macau casinos. This took down other gaming stocks with operations in Macau, but with the pre-open undercut of the 73.01 price level I decided to take quick profits. In this case LVS rallied almost all the way back up to where it closed the prior day, which I saw as an opportunity to re-short the stock. Nothing like “double-dipping” on the short side on the same day! LVS then rolled back down towards the bottom of its daily trading range and closed just under the 75 price level. LVS tried to rally again on Friday, but ended down 8 cents on the day on lighter volume, as we can see on the daily chart, below. You might also notice that LVS closed right at what has been short-term support for the stock over the past couple of months, so I’m looking for another bounce back up towards the 77 level as a possible area to re-short the stock yet again. If one is still short the stock from the 50-day moving average one could use the intra-day high of Friday at 76.20 as a trailing stop.




Baidu (BIDU) is also finding support along a series of lows that have occurred over the past two months, as we can see on the daily chart, below. Volume was fairly weak on Friday as the stock tried to rebound off of that near-term support level. BIDU could attempt to rally back up to the 200-day moving average at the 157-158 price area, which I would consider as a potential price area at which to short the stock. If you are short the stock from above the 160 price level per my discussion of BIDU in last weekend’s report, which would also provide a decent trailing stop for the stock. But if it cannot clear the 200-day line then it might also present a decent point at which to add to an existing short position in the stock. At this point the situation in BIDU is quite fluid and we will just have to see how it pans out from here. The critical aspect of this short-sale set-up is that one should already be short the stock from around the 160 price level, maybe a little bit higher rather than trying to chase the stock on the downside.




Trulia (TRLA) is yet another short-sale target holding along the lows of near-term support, as we can see on its daily chart, below. Again, you do not want to be chasing a short in TRLA down here along the lows of this multi-month range. Instead, one should be opportunistic and look to take advantage of any rally back up into the 50-day moving average, currently at 32.70, as a potential entry point to initiate a short-sale in the stock. Again, I cannot over-emphasize how important it is to remain opportunistic on the short side, seeking to short rallies into logical areas of resistance and, in particular, areas that might also form the peaks of logical right shoulders in an overall H&S formation. Those who fail to take an opportunistic stance towards the short side and who allow their greed to take over as they suddenly decide to chase short-sale targets after they’ve broken down 10% or more are foolish, in my humble opinion. Know where your low-risk entry points on the short side exist for every stock on your short-sale watch list, and when a stock rallies up into that area be prepared to act. Preparation and anticipation are key elements for success on the short side, not reacting to a sudden impulse of greed after you’ve seen a stock come unglued on the downside.


GR051114-TRLA (AMZN) is reaching a point where I think a more concerted reaction bounce and rally to the upside is becoming more likely, and I would not be opposed to taking profits in any short position taken on the rebound back up to the 10-day line earlier in the week. As we can see on the daily chart, below, AMZN is starting to show a number of gray oversold bars, which argues for at least some sort of reaction rally from current price levels. A rally back up to the 50-day moving average up at 336.57 would not be unusual. The stock is also sitting on top of a basing area from the third quarter of last year, which might provide some near-term support for the stock from here.




Pandora Media (P) was a nice 10% plus scalp after it failed at the 25 price level and the 10-day line earlier in the week, but I get the sense that the stock is in a position to have some sort of oversold rally from here. As I wrote in my report of this past Wednesday, we’ve gotten a huge amount of “juice” from P as a short-sale target stock since I first discussed it as a short up at around the 35-36 price level. Ultimately, if we do go into a deeper market correction I think P heads down towards the 19 price level, but near-term I would not be surprised to see the stock have a more concerted rally attempt back up to the 200-day moving average from here. And that is where I would be very interested in coming back after the stock on the short side.




Celgene (CELG) remains in a position where it is wedged up against the underside of its 50-day moving average, as we can see on the daily chart, below. I’ve shorted the stock up here as it sticks its head into the 50-day line and while it has backed off 2-3 points each time, it has not broken down decisively in the manner that, say, BIDU broke down from its own 50-day moving average earlier this past week. Thus I tend to think CELG may have one more rally up to the 200-day moving average, currently at 152.85, up its sleeve. That would certainly present a more optimal point at which to investigate the possibility of shorting the stock since for now I get the visceral sense (from having shorted the stock repeatedly at the 50-day line) that it is a bit more buoyant here than we might want to believe. Among other bio-tech short-sale targets such as Biogen Idec (BIIB) and Pharmacyclics (PCYC), both not shown, I would remain patient and look to possibly short these stocks on rallies into their 50-day moving averages.




LinkedIn’s (LNKD) has remained one of my favorite short-sale targets, and as we can see on the daily chart it has not failed me in this regard. LNKD broke to fresh 52-week lows after running into the 10-day moving average two Fridays ago, and again is testing the 10-day line which is now about 10 points lower at 149.41. Two Fridays ago the 10-day line was at 162.24. Notice that gray oversold indicator bars are piling up in the pattern and I have to consider the fact that LNKD may be ready for a more significant upside reaction rally. Notice that all the way down, each time one or two gray oversold indicator bars have shown up on the chart LNKD has managed to bounce for at least a few days. Now we see three such bars, one of which is quite wide. Remember that even the weakest of short-sale target stocks can have very sharp bounces as a matter of course within their patterns, and this is one of the aspects of short-selling that one must take into account. The way to guard against getting caught in such reaction rallies is to keep tight trailing stops. In the case of LNKD I am using the 10-day line at 149.41 as my upside trailing stop. LNKD rallied on low volume up towards the line on Friday, so it is not clear whether it can decisively rally above the line just yet.




Since the beginning of March the market has been a virtual gold mine on the short side. Last year I had my best year, performance-wise, since 2004, and this year I am already ahead of last year by a decent margin, and it is only early May. If we look at a chart of the NASDAQ Advance-Decline Issues ($NAAD), below, we can see why the short side of many former high-P/E high-flying NASDAQ names has been so profitable since March, Early March marked the beginning of a steep decline in a broad number of former leaders, from DATA to NFLX to YELP and everything in-between, and this is evident in the NASDAQ A/D line which has now broken to a lower low. Under normal circumstances, this might be viewed as quite bearish.




But the evil “Mr. Hyde” NASDAQ market looks quite different from the “Dr. Jekyll” market on the NYSE. The NYSE Advance-Decline Issues ($NYAD) chart below shows breadth that is more indicative of a market that is for all practical purposes consolidating recent strength rather than breaking down so badly as the NASDAQ has. Personally, I don’t recall ever seeing a market that is quite like this one. Sure, there have been times when one index might outperform the other for a period of time, but this stark of a difference between NASDAQ growth names and bigger-cap, more stable NYSE names is quite unusual, to say the least. Making money on the short side, however, has remained a function of focusing on individual stocks rather than trying to decipher whatever macro-message this current massive divergence is telling us.




The upshot of all this is that the long side still remains a relatively barren field from my perspective, and it seems to me that the most profitable long situations might simply be short-sale target stocks that have sharp reaction rallies within their downtrends as is often quite common among former leaders that are in macro-decline. Thus for now cash remains king, while I would remain opportunistic on the short side by watching and waiting for short-sale target stocks to rally up into clear areas of potential resistance.

I have to say that from the flow of emails as well as the feedback to my tweets appears to indicate that everyone is quite interested in the short side of the market. From the perspective of how greed plays a role as a strong emotion among less-experienced traders and investors, it seems to me that investors who sat back on their heels when it was time to start getting aggressive on the short side was in early March are now a bit too excited about shorting stocks. I was right on top of the optimal time to short back in early March in my reports back then, and now, fat and happy with short-sale profits. I am more cautious and certainly less inclined to get aggressive on the short side right here and now unless I see something “juicy” setting up. But at the present time most short-sale targets are somewhat extended to the downside within their chart patterns.

Currently I tend to think that we are in an area where the market is trying to make up its mind, and in the process presents us with this bizarre, schizoid divide between the constructive action of the NYSE-based indexes and the destructive action of the NASDAQ and its associated indexes. The bottom line for me right now is to remain light-footed, fluid, flexible, and patient as we see how this current action resolves itself.


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 had positions In BIDU and LNKD, 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. ©2008-2019 Gil Morales & Company, LLC. All rights reserved.