The Gilmo Report

November 2, 2011

November 2, 2011

The market’s attempt to run past the 200-day moving average was soundly rejected on Monday morning as news of a Greek referendum sent the indexes sharply to the downside. Tuesday’s action exacerbated the sell-off, taking the NASDAQ Composite Index down to logical resistance at and around the top of its prior price range, as we see on the daily chart below. Given the straight-up-from-the-bottom move off the early October lows, the market was entitled to a pullback, and given the nature of this market it is probably no surprise that it was a very sharp one. It is, however, enough to give pause to those wanting to get long this market, as few long ideas that I’ve mentioned in this report have made much progress, and in several cases have made negative progress. As I discussed in my GoView.com video piece over the weekend, the market may be rallying, but there is no reason for one to feel as if they have to plow headlong into this market in an effort to “get on board.” With the market acting the way it is, I am content to sit back and wait for a “fat pitch” to come down the middle of the plate, and as of mid-week, today, I don’t see any fat pitches coming down the plate. DOW

DOW Gilmo Report Chart

As I’ve written before, the true, material test of going long or short in any given market environment is just how much progress is made doing so. If the long side is mushy,and you buy a couple of stocks and immediately find yourself underwater a percent or two, that is telling you something. There is no need to force things. I can tell you from my own experience that almost every time that I have made big money in the market, the stock I bought that did all the heavy lifting was usually purchased some time after the initial follow-through day. Two examples would be my big purchase of Apple, Inc. (AAPL) in October 2004, right after earnings were announced and two months after the initial August follow-through day, and C-Cube Microsystems (CUBE), which was purchased in May of 1995, fully five months after the December 1994 follow-through day. So while stocks like CMG, BIIB, LNKD, LULU, ISRG, MA, QCOR, and V may still continue to hold up fine, moving sideways as they simply build bases, it may be that not much upside progress can be made, at least not just yet. But stocks which continue to base-build should be kept on one’s long watch list, even if the long side turns out to be a non-viable strategy in the market as it develops here in real-time. Let’s run through these stocks to get a sense of where they are at with respect to making progress:

CMG – holding pocket pivot buy point of last week, but unable to hold move to new highs. Minimal progress.

BIIB – drifting below 114.28 intra-day low of gap-up day of five trading days ago, but holding at 10-day moving average. Negative progress from gap-up.

LNKD – holding in sideways consolidation but no follow-through from last Friday’s pocket pivot buy point. Negative progress so far, but still holding above 50-day moving average.

LULU – no follow-through from last Thursday’s pocket pivot buy point but still holding above 50-day moving average. Negative progress.

ISRG – still holding above buyable gap-up of 11 trading days ago, but with minimal progress. Acting okay.

MA – breakdown followed by gap-up today on earnings. Will it hold? Minimal progress so far from last week’s pocket pivot.

QCOR – holding above buyable gap-up of six trading days ago and well above 10-day moving average, the best acting of the bunch.

V – nice pocket pivot buy point last week after earnings, but no follow-through as stock has turned lower. Negative progress.

All in all, not much progress.

The flip side of course is the potential for the market to perhaps get into more trouble here. While the last couple of days’ worth of action is not enough to call a full-scale breakdown in the market, that could change over the next few days. My sense, however, is that a lot of this may be news oriented, and so if you take too strong or aggressive of a stand one way or the other, you may be subject to bizarre news-related gaps both to the upside and the downside, getting whipsawed around. The crowd seems to be convinced that the market is headed for a seasonal rally into year-end, and the market could always seek to do what it does best, which is fool the crowd. It is always possible that we could be in a big sideways range similar to what we saw during most of 2008 after the sharp breakdown in early January 2008, as we see in the daily chart of the NASDAQ Composite Index from that period. Eventually, the market tried to rally back above its 200-day moving average three times as the market moved through the summer months before blowing apart entirely in September and October of 2008 in what turned out to be the third leg down in the 2007-2009 bear market.

NASDAQ Composite Index Gilmo Report Chart

My own experience in this market has been that the short side was the most profitable side in October despite the straight-up rally off the early October lows. Of course, this was because of my short-sale trades in Green Mountain Coffee Roasters, Inc. (GMCR). In hindsight, the key for me in October was 1) to treat the market as a market of stocks without trying to take sides despite the sharp upside index move throughout the month, and 2) to isolate my trading to the best names, long or short. In this case, the best trending stock in October that showed up on either my long or short screens was GMCR, since the long ideas have been mushy at best. I simply identified and played that trend, assessing GMCR on its own merits without having to label myself “bullish” or “bearish” when it came to the general market. As Jesse Livermore said, and as you all know I am quite fond of quoting, “There is no bull side or bear side – only the right side.” And the “fat pitch” in October turned out to be a GMCR short-sale campaign.

On the short side, a general theme that I would look for to develop here is the idea that big-stock leaders will lead the market down on any subsequent down legs following the initial break off the peak, and thus it may be a matter of keying on some of these stocks. If we refer back to that 2007-2008 NASDAQ chart I show on the previous page, the big breakdown in January 2008 saw stocks like Baidu, Inc. (BIDU) and Apple, Inc. (AAPL) break down hard from their price peaks as they continued on to new highs despite the actual market top in October 2007. The next big leg down saw other leaders like the fertilizer stocks (MOS, AGU, POT, etc.) and other materials-related stocks (X, FCX, etc.) finally break down, such that each new downleg in the 2007-2009 bear market saw a different leading group finally break down. My guess is that if we see another leg down here in the general market, this will be led by big stock leaders that we are seeing wobble around currently as they eventually start to break down. That is, of course, just a theory based on precedent, but if the market continues to break down, this bit of precedent may be helpful in figuring out where to go with respect to short-sale targets. Look at a chart of Priceline.com (PCLN), which just can’t seem to get back above its 200-day moving average, and with earnings coming out next week we will see where this rather weak action takes the stock. Two big stocks that have already announced earnings may provide bigger clues as to the ultimate direction of this market over the next few days and/or weeks.

The biggest of the big-stock market darlings and index juggernauts is of course Apple, Inc. (AAPL). We’ve been following the continuing AAPL saga and soap opera as the stock has darted back and forth over the past several weeks, and today we find the stock perched nice and tightly on top of its 50-day moving average. As we can see on the daily chart, AAPL is similar to Amazon.com (AMZN) in that it had a straight-down-and-straight-up move as it broke down to its 200-day moving average and then zipped straight back to new highs in a “two-weeks-down-and-one-week-up” formation that could be interpreted as a sell signal. Note also that since the big V move topped out about three weeks ago the stock has had two gap-downs in the pattern on increasing selling volume. So far AAPL is holding the 50-day moving average, but my guess is that if the market is going to start another down leg here then AAPL is going to bust its 50-day moving average to the downside. Such an occurrence on heavy selling volume would be a short-sale signal, in my view, and could be acted upon. AAPL is a barometer here, so keep an eye on it.

Apple, Inc. (AAPL) Gilmo Report Chart

As I discussed in my weekend report of October 30th, Amazon.com (AMZN) flashed a two-weeks-up-and-two-weeks-down type of move that could be interpreted as a sell signal, and in fact the stock did gap down hard after forming that V-shaped move off the early October lows, as we see in the daily chart below. Last week’s earnings-related gap-down took the stock to the 200-day moving average where it dutifully bounced back up towards the 50-day moving average. This rally has occurred on diminishing upside volume, so it is wedging somewhat. If we operate on the theory that the “two-down-and-two-up” move was a sell signal, then we might consider that the current wedging rally may become potentially shortable in the next day or several days. Given the negative technical evidence apparent on the daily chart, we can also postulate that a new leg down in the general market may see AMZN break down as well, validating the sell signal off the peak. Like AAPL, keep an eye on AMZN, as it may be another “downleg barometer” to monitor closely.

Amazon.com (AMZN)  Gilmo Report Chart

Gold and silver continue to hold above their recent pocket pivot buy points, and the pullback earlier in the week may have been partly related to the demise and bankruptcy of MF Global which was a big player in derivatives and commodities contracts. The SPDR Gold Shares ETF (GLD), shown below on a daily chart, came right down into its 10-day and 20-day moving averages yesterday before finding support as volume picked up sharply from the prior days’ extreme volume dry-up. The SLV also found support yesterday, but the GLD appears to be the stronger of the two, so that is my preference, although silver is likely to track gold in any case. The GLD may also work here because it has two things going for it: 1) a European agreement to “fix” the sovereign debt problem will only amount to “Euro-QE” and the printing of money, a positive for gold, while 2) a European failure to come to any agreement that results in a Greek default could enhance gold’s allure as a safe haven. As long as the GLD holds above last week’s pocket pivot buy point it is a live trade, so stay tuned for the next add point if and when it occurs.

SPDR Gold Shares ETF (GLD) Gilmo Report Chart

Sometimes the market just doesn’t give you much to sink your teeth into, and this seems to be one of those times. The market may go into a sort of state of suspended animation as the Eurocrats sort things out, or it may begin to roll over here. Those I consider the two higher probabilities here as there is little evidence here for me to assume that the market has enough mojo for a sustained, material bull or rally phase from here. That doesn’t mean that it can’t take more time to develop, but currently I see no reason to take an aggressive stance here on the long side. Right now I like the GLD, and silver which should correlate to some degree, and that’s about it, but that could change in the coming days. A breakdown in AAPL or AMZN could cause me to come in on the short side of these stocks, and these are probably where I would go to if I saw a playable breakdown in the general market, so stay tuned.

On an administrative note, I would like to inform all Gilmo members that tomorrow night, Thursday, November 3rd, at 8:00 p.m Eastern, 7:00 p.m. Central, and 5 p.m. here on the beach in Southern California, Dr. K and I will be presenting an online webinar as part of the Diversified Trading Institute’s series of trading webinars. Members can register to attend at: http://dti.omnovia.com/register/71371319831966. The webinar is free, and we will be discussing the use of “Market Context” as a tool to gain an edge in the investment decision-making process. We look forward to seeing you there.

 

Gil Morales

CEO & Principal, Gil Morales & Company, LLC
Principal and Managing Director, MoKa Investors, LLC
Principal and Managing Director, 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 AGQ, DGP, and GLD, though positions are subject to change at any time and without notice.

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