The Gilmo Report

May 19, 2019

May 18, 2019

The market’s wild and woolly action did not let up all week long. The NASDAQ Composite and S&P 500 Indexes both regained their 50-dmas on Thursday as they got right back to where they started the week. The three-day rally was greeted on Friday with a gap-down open, and the market went into the spin-cycle from there.

The indexes rallied off their gap-down lows and turned positive within the first 90 minutes. For a while, the upside reversal in the face of an opening gap-down looked quite bullish. But as is so often the case in this market, things are not always how they appear.

The rally faded, and the indexes steadily deteriorated from there, with the Dow closing down -0.38%, the S&P 500 -0.58%, and the NASDAQ Composite taking the brunt of the selling with a decline of -1.04%, all on higher volume. In the end, a three-day rally results in a higher-volume reversal at the 50-day in both the NASDAQ and the S&P 500.



Overall, the week’s action only bolsters my view that this is a wild, volatile, and highly uncertain environment that makes it more for the nimblest of swing-traders and less for investors. Four of the five trading days this week started out with gaps up or down at the open, as some groups, like clouds and softwares, tried to push higher while others, like semiconductors and telecoms, got bashed.

As I wrote in my Wednesday report, it’s very difficult for me to pound the table on the long side, or even the short side for that matter, given how volatile the market has been. Trade set-ups seem to occur on an ad hoc basis, and one has had to be alert to rapidly changing conditions in real-time. Friday was a wonderful example of the way this market acts currently.

In general, if I had to take sides, my view is that more downside seems more likely at this stage. However, this remains a highly news-dependent environment, so one headline can get things flipping the other way in a hurry. As one pundit put it, “This market is just one tweet away from a rally,” to which I would add that it’s also likely the market is just one tweet away from a sell-off, all of which just underscores how messed up this market is.

In times of trouble, the undercut & rally long set-up often becomes a useful weapon. However, members should be aware that when they stop working, the market may be in for some downside trouble. This is what happened back in the October-December time frame last year, and it was symptomatic of what was a very serious market correction, even bear market, based on how the pundits measure such things.

Members should also remember that the U&R long set-up originally started out as a signal to cover a short position that was moving lower and breaking support levels. You can read all about that in my book on shorting, Short-Selling with the O’Neil Disciples (John Wiley & Sons, 2015). As noted, the U&R started out as a short-covering signal, but in the late stages of this market it has evolved into a long entry signal for what are often very profitable swing trades.

The most profitable trade we’ve had this year has been in Roku (ROKU), which started out as a macro-U&R long set-up at 29 in late December/early January. The macro-U&R concept occurs on the weekly chart and is a derivative of the U&R as it appears on a daily chart. In this case, the longer-term or macro low for ROKU was the $29 low of April 2018.

When ROKU rallied back above that macro low in late December/early January, a macro-U&R long entry was triggered as I discussed in my reports at that time. That has led to an overall move that has now spanned 190.46% from the $30 entry area to today’s intraday high of 87.14.



But all of this is beside the main point I want to make. Many newer members, or those who are in general new to my way of thinking, may believe the U&R is solely a long entry signal. But the full story is that it started out as a short-covering signal first. And in a bear market or severe correction, it can still operate the same way.

The way we tell the difference is that as a market pulls back or corrects, we will begin to notice that the U&Rs start to fail as long entry set-ups.  At the same time, we notice that they are starting to work more as short-sale cover points than long entries. Once one covers on the U&R, the idea is to wait for the ensuing rally, the “R” part of the equation, to reach resistance.

At that point one can then look to re-enter the short position at resistance up higher in the pattern. So, if we start seeing more U&Rs work this way, then we might start to understand that the market and leading stocks have a problem. Some of that is evident right now, although we still have to see how things play out.

Apple (AAPL) gapped below its 200-dma on Monday, while at the same time undercutting a prior low in the pattern from late March. That was a typical U&R signal as it rallied back above that low, and it triggered a rally back up toward the 200-dma. On Thursday, AAPL ran into resistance at the 200-dma and reversed on above-average volume.

So far, this is acting more like a U&R of old, when it was merely a short-covering signal. As I wrote on Wednesday, “AAPL looks like a short right here near the 200-dma while using the line as a guide for a tight upside stop.” It remains that way until and unless it can regain the 200-dma.



Netflix (NFLX) is another similar situation. Here we see the breakdown through the 50-dma last week that undercut the prior mid-April low earlier this week and then rallied.  The rally carried right up into the 50-dma yesterday, where the stock was shortable at the line.

The stock stalled on the highest volume during the three-day rally off Wednesday’s low and closed about mid-range. On Friday, NFLX then sold off further as buyers remained uninspired and volume declined. Unless it can regain the 50-dma, NFLX remains a short on rallies up into the line from here. (AMZN) also looked like it might try and rally after posting an undercut & rally move on Friday. But the stock also gapped down on Monday and ran into its 50-dma, where it is now trying to hold support. AMZN bounced off the 50-dma today in a logical move but is not in what I would consider a buyable position as one would have had to step into the stock at the 50-dma this morning.



Our old friend in the retail area, Yeti Holdings (YETI) gives us another look at a stock that is acting more like a short-sale target where U&R moves simply take the stock back up into resistance. At that point, it rolls over and heads lower.

We can see on the chart that YETI broke out in late April, but the breakout was decidedly late-stage. It quickly failed after the company reported earnings and broke below the prior base breakout point and the 20-dema. This then found temporary but logical support at the 50-dma and bounced up into the 20-dema.

From there, however, it headed back to the downside, breaching its 50-dma two days later. Once it was below the 50-dma, it attempted several U&R moves back up through the early-April lows. But all those did was take the stock right up into the 50-dma where it reversed and has moved to lower lows since.

So, another example of how U&Rs act more like short-covering points, and the ensuing rally merely brings the stock back up into logical resistance. In YETI’s case, this was the 50-dma. This is more like textbook action for a short-sale target, and as we see this change in how U&Rs work in more stocks it serves as a sign that the market may be changing character.



Cloud Names

Here’s another example among the cloud stocks, The Trade Desk (TTD). The stock blew apart after earnings but undercut a prior 178.30 low in the pattern from March 8th. This triggered a sharp upside move back into the 50-dma, where the stock stalled on heavy volume and closed back below the line.

On Friday, TTD again ran into resistance near the 50-dma and closed in the red. I’m watching to see whether this resistance at the 50-dma holds, which would make the stock a short here using the 50-dma as a guide for an upside stop. IF this rolls over, then it will act more like the way a U&R acts in a short-sale target, and thus provides more evidence for a potentially deteriorating market environment.



The strongest-acting names this week were the small group of cloud names that I’ve discussed in recent reports. These have been my go-to names on the long side when the timing has been right. All of them, Coupa (COUP), HubSpot (HUBS), ServiceNow (NOW), Okta (OKTA), Workday (WDAY), Zendesk (ZEN), and ZScaler (ZS), broke out to new highs this week, as we can see on the group chart below.



It will be interesting to see whether they are able to hold these breakouts. If the market finds its feet, then they may be your primary leaders on the upside. If the market continues to correct and moves lower from current levels, there is always the chance that they could fail on these recent breakouts.


Semiconductor stocks have continued to get smashed, and the group chart below, which offers a sampling of key names in the group, illustrates this. Among these, only Lam Research (LCRX) hasn’t busted its 50-dma, but it looks like it could do so soon enough.



Applied Materials (AMAT) reported earnings Thursday after the close and beat very weak estimates by four cents. Overall, the company reported a continued and sharp deceleration in earnings and sales growth at -43% and -23%, respectively. In this market, however, that qualified AMAT for a Friday gap-up open and move to a peak of 44.36.

But that merely made a juicy short-sale target as the market weakened later in the day, and it closed Friday at 42.70. This still looks like a short to me, but I would prefer to re-enter the position on any rallies back up closer to the $44 price level. Otherwise, a breach of the 50-dma would trigger a lower short-sale entry at that point.



Nvidia (NVDA), which I view as a big-stock NASDAQ name, but which is also a semiconductor, also reported earnings after the close on Thursday. It beat weak estimates by seven cents, but the number still represented a -57% earnings contraction on a -31% sales contraction. That initially led to an after-hours move up to 171.98, which lasted about an hour before the stock quickly fell back near where it closed on Thursday.

On Friday, a brief attempt at a rally with the general market ended at an intraday peak of 163.71, and NVDA kept falling all day before it closed at 156.53. That made for an ugly outside reversal to the downside on heavy volume. So, despite the initial gaps and moves to the upside after reporting earnings, both AMAT and NVDA worked best as short-sale targets.



Telecom Related

Telecoms are another ugly group, as I already noted in Wednesday’s report. At that time, I also pointed out that Viavi Solutions (VIAV), down at the lower right corner, “…is starting to show some cracks in its armor. Its prior base breakout of two weeks ago on heavy volume, has now failed.”

Previously, it had been trying to hold a base breakout, but that breakout turned out as most breakouts do in this market. It failed. That breakout failure led to a worsening situation on Friday when VIAV busted lower on a big streaking downside move that took it straight into the 50-dma. Put a fork in it, and the rest of the telecoms.




Social-networkers aren’t wholesale breakdowns, but overall the group has made zero progress over the past month or so. The group chart of the three big social-networking names shows that Snap (SNAP) has perhaps had a little more snap in its step than the other two over the past week. It posted both an undercut & rally (U&R) move on Tuesday and then a pocket pivot on Wednesday as it cruised back above its 50-dma.

SNAP has now rallied back up to its declining-tops trendline, which makes me think it could potentially become a short up here if the general market remains weak. One could use an easy stop somewhere around Friday’s close and the 11.86 high of early May.

Meanwhile, both Facebook (FB) and Twitter (TWTR) have bounced from logical areas. FB reached its 50-dma on Tuesday and bounced from there, while TWTR posted a U&R through the prior BGU low of late April and rallied.

Both stocks are now hanging along their 20-demas, and not in what I would consider buyable positions.

Both stocks closed just below their 20-demas on Friday, which brings up the possibility of viewing these as short-sale targets if they’re still hanging along their 20-demas when the market re-opens on Monday. That would likely work best if we saw the general market continue to weaken on a retest of this past Monday’s lows.



Cyber-Security Names 

Group charts that I show in this report give a very complete picture of where the broken-down areas of this market lie. Most groups are having a bit of trouble lately, some much worse than others. The cyber-security names are no different.

The group chart below shows a landscape of busted former leaders. The lone standout is CyberArk Software (CYBR) which found support at its 50-dma on Wednesday, the day after it reported earnings. It then rebounded back up to Tuesday’s intraday highs above 132 in an extremely sharp and narrow three-day v-shaped move.

CYBR is certainly not in a buyable position here, but the big v-shaped reflex move does bring up thoughts of a double-top type of short, using the 132 level as a guide for an upside stop. Again, as with any short, this will likely work best if we see the general market correct further.



The Weed Patch

More group malaise can be found in the Weed Patch. Aurora Cannabis (ACB) followed through a little to the upside following its U&R move back up through the lows of its current base on Wednesday, as I discussed in my report of that day. But the move carried right up into the 50-dma, where it ran into resistance and reversed on Friday.

That may be all we see on the upside for ACB, as the rest of the group remains stymied, at best. Both Canopy Growth (CGC) and Tilray (TLRY) are failing to hold their 50-dma and 10-dma, respectively, while Aphria (APHA) and Cronos (CRON) remain ensconced in continued downtrends. Unless the market regains its rallying ways, the Weed Patch probably remains another down-and-out group, of which there are many in this market.

GW Pharmaceuticals (GWPH) dropped back down to its 20-dema on Friday, but selling volume increased and this may indicate that a breach of the 20-dema may be likely. If it can hold the 20-dema, then the pullback does bring it back into a lower-risk entry position, but I would use the 20-dema as a very tight selling guide. Otherwise, a breach of the 20-dema could trigger this as a short-sale target at that point.




There is absolutely nothing among Chinese-related names that I find worthy of buying. Even (JD), which looks relatively better as it pulls into its 50-dma, could easily become a short-sale target on a breach of the 50-dma. Also note that Alibaba (BABA) was a short into its post-earnings rally.

I indicated in my weekend video report that I would use any rallies in Chinese names following earnings to short into. That approach worked well with BABA, which is representative of the general carnage that pervades the entire group.


Just to drive home my point that this is a busted at worst, messy at best market, take a look at a group chart of big financials:


Here’s a group chart of selected industrials, such as Boeing (BA), Caterpillar (CAT), Deere & Co. (DE), and 3M (MMM). All busted. The only one in this particular six-chart group making new highs is Air Products (APD) which grew earnings and sales at 12% and 1%, respectively, last quarter. It may soon run out of gas if this market continues to weaken.



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.

The group charts show clear evidence that this market has been deteriorating under the hood for some time now. However, that hasn’t made the short side a slam dunk. The pervasive news-oriented nature of this market keeps things very volatile, And, if for some unlikely reason the U.S. and China suddenly decided to return to serious negotiations, the market could rally sharply.

This is why I view the current environment as one for short-term swing-traders and nothing more. This includes the situation with the cloud names, which mostly act well, for now, but if the general market continues to weaken these could quickly start to come apart. In this regard, I will discuss my strategy for the short side in this weekend’s GVR, since I believe it requires a more detailed treatment.

As I wrote over a week ago, the risk/reward profile of this current market environment seems decidedly skewed toward more risk. I certainly have found some very nice swing-trades on both the long and short side over this past week. But as I intimated in my Thursday GVR, when I make money I feel like I’m more lucky than smart, or that somehow, I’ve gotten away with something.

It’s just been that kind of market, and this past week’s action tends to underscore that fact. In my view, the market situation is not likely to change, but we could easily see the indexes make lower lows. I would think that by now, with the breakdowns in many leaders, members have likely been pushed more into cash, which I think is a good place to be.

So, I will close this report the exact same way I closed my Wednesday report: It’s a messy market, so be cautious, be prudent, be nimble, and most of all, watch your back.

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 no positions, though positions are subject to change at any time and without notice.

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