European Central Bank head Mario Draghi’s hot air emissions about printing money ad infinitum and the People’s Bank of China moving to lower interest rates in that country on Friday (despite an economy that grew at an annualized 7.3% in the third quarter of 2014) helped to spark a big upside gap in the major market indexes right at the open. But as the daily candlestick chart of the NASDAQ Composite Index shows below, the move stalled and reversed as the index closed near the lows of the day on higher options expiration-related volume.
In my view, the heavy options expiration volume and price volatility gave the smart money perfect cover to sell into the gap, and a whole slew of stocks reversed with the market on Friday. As I see it, the action in the indexes across the board sets up a possible island reversal which is what I would be looking for next week.
This would help to confirm what we’ve been seeing in the action of individual stocks as leaders continue to break down and get clocked. The fact that I can continue to make strong progress shorting this market even as the indexes romp their way to new highs tells me all I need to know. And the fact that I see nothing I want to own on the long side adds to my conclusion, which is that the market may be forming at least a short-term top and perhaps something worse.
While I’m sure that over the weekend the media will be trumpeting the “strong” action in the market Friday, I tend to think that the market is merely drawing in dumb money as the smart money sells into strong action.
Meanwhile, nobody seems to see what is going on underneath the hood of the market, and so the crowd remains bullish as shown in the extreme readings in a number of sentiment surveys. The S&P 500 Index, shown below on a daily chart, held up a little better than the NASDAQ, but Friday has a little bit of a “shooting star” look to it on heavy options expiration volume. This is a tricky market, for sure, but I go with what I am seeing and “feeling” viscerally with my trades in terms of where I am able to make progress in terms of generating profits.
And as I already said, the fact that I can make progress shorting stocks even as the indexes continue to churn to higher highs is something I have to pay attention to. To some extent, the current action reminds me of late February when leading stocks began to come apart during a short, sharp correction in late January and then finally blew apart when the market topped in early March.
One can go back and look at a number of stocks that actually topped during the very short late January correction and then completely broke down from their patterns when the March top hit. The 3D printing names are one example. We just had a sharp correction in October that saw a number of leaders, from FB to NFLX to GILD to BIIB to TWTR to TSLA and more, all top out. As the market has moved into the latter part of November, we are seeing these stocks begin to break down further within their patterns.
The bottom line is that I go with what the stocks are telling me, and this past week was a very profitable one for me on the short side. That tells me all I need to know. Now let’s look at what the stocks are telling us here.
After heading right to the 20-day moving average on Wednesday and retesting the line on Thursday, Alibaba (BABA) was able to bounce a little further on Friday as the gap-up in the general market put some wind in its sails. That gap-up move ran into resistance at the 10-day moving average when buying volume failed to materialize and the stock turned and closed near the lows of the day. Volume was light, as we can see on the daily chart, below.
Basically what you have here is a stalling bounce attempt off of the 20-day line followed by a low-volume reversal at the 10-day line as buyers’ enthusiasm for the stock remained mute. This looks to me like it is going to come into the 20-day line again, and so I would not be looking to buy the stock here.
It would be more constructive to see a pocket pivot coming up through the 10-day moving average, but I continue to short the stock at the 10-day line, looking for a possible retest of the original breakout point at 99.80. Initially I had likened BABA to GOOGL in 2004.
But as I wrote in my report of November 12th, a big difference between the two stocks is that BABA is so widely loved and highly regarded here that I tend to think the crowd is all over this one in the expectation that it is a “no brainer” to move higher. In the market, what is obvious to the crowd generally is what fools the crowd. And so my view on BABA has shifted away from my initial enthusiasm to a more sober outlook at the current time.
A continuation pocket pivot off of or through the10-day line would make me more constructive on the upside potential of the stock, but so far that hasn’t happened. Thus I am happy to have taken profits on the sharp upside move in the stock in October and November and put the long side of BABA on hold for now pending further evidence.
CyberArk Software (CYBR) remains one of my favorite long ideas, but I have taken profits in the name for now as it holds up very tightly and gives its 10-day moving average some time to play catch-up. As the 10-day line moves up to meet the current price level, members should remain vigilant for a possible continuation pocket pivot around the line. For now, CYBR remains on my strong-buy watch list as I remain cautious on the general market.
If you want to get an idea of how former leaders are getting shellacked, you need look no further than GoPro (GPRO) and Mobileye (MBLY), both of which I show below on daily charts. GPRO gapped down through its 50-day moving average on Thursday after pricing a 10.4 million share secondary offering at $75.
The breakdown has taken the stock all the way down to its 65-day exponential moving average. In my view this thing has topped. The best we can hope for now is that the stock will try and build a new base here. However, hope is not an investment strategy, and I would just leave the stock alone for now.
Meanwhile, MBLY came out with its first earnings report as a public company on Wednesday. After a brief gap-up on Thursday morning, the stock reversed on huge volume, as can be seen on the daily chart, below. Thursday’s action constituted a big-volume outside reversal to the downside, which is very negative. Recall, however, that in my October 5th report I noted that MBLY looked to be forming what could turn out to be a “fractal” head and shoulders formation. I noted that if I could get a borrow on the stock it might have been shortable at that point.
That was over a month ago, and now we see the fractal H&S formation come into play here as the stock breaks further below its 50-day and 65-day moving averages. I think MBLY is a short here, and any rallies up into Friday’s high at around 46.50 probably represent good short-sale entry points, using the 65-day line at 46.60 plus another 2-3% on the upside as a guide for your stop.
Tesla Motors (TSLA) is currently my favorite short-sale idea, given the fact that it is my largest short position right here, right now. As I wrote in my report of this past Wednesday, I saw the low-volume churning day on Tuesday as a short-sale point. At that point, TSLA had skidded about 4% beyond the 50-day moving average as it moved up near the peak of the first right shoulder. This occurred in the overall fractal H&S formation in the stock that we’ve been talking about for over the past month.
TSLA gapped down on Wednesday but found temporary support at the 50-day line until it staged a big-volume outside reversal on Friday that took it below the 50-day line. I still consider the stock shortable using the 50-day line as your guide for an upside stop. Short-term I see the stock coming into the 200-day line at 230.70. With that said, I believe that TSLA has topped for good here and is eventually going to trade a lot lower than that. Barring an upside stop-out, I intend to play TSLA as a “strategic” short from here until proven wrong.
Twitter (TWTR) is another nascent leader that topped in October and is now forming a bear flag after a big-volume reversal at the 20-day moving average last week. It looks to be headed lower as well, as we can see on the daily chart, below. I have remained short the stock since hitting it hard at the 20-day moving average last week. I am looking for a downside breakout to carry the stock through the lows of its July base at 35.95.
If you study the chart carefully, you can see that the move up to the 20-day line last week is actually an upside “pullback” or a “shake-up” that finds inverse “support” at the line and closes down on heavy volume. Since then the stock has been moving tightly just above the 40 price level. On Friday the stock had another upside pullback up into the 10-day line before closing roughly flat on light volume.
If we turn the chart upside-down, this looks like a constructive pullback to the 10-day line, except in reverse. Hence I see Friday’s action as setting up an imminent breakdown in the next few days. For now, I am using the 20-day line at 42.01 as my guide for an upside stop as I remain short the stock here.
Facebook (FB) strikes me as being in a similar position as TWTR, building a short bear flag after the late October post-earnings gap-down and late-stage breakout failure on heavy volume. As we can see on the daily chart, below, FB is not as far down in its pattern, but it is showing signs of weakness within this nearly month-long bear flag. We must remember that FB is still a crowd favorite, so a breakdown can take time.
To me it looks like we are getting closer to a downside breakout, and we can see Friday’s action as a sort of upside pullback where the stock reverses off the 10-day line on heavier volume. If we turned the chart upside-down, we would see this as a constructive pullback that found support at the 10-day line, but in reverse. Thus this has a bearish tone to it, and I remain short the stock using the 20-day line at 74.90 as a guide for a tight upside stop.
Netflix (NFLX) is another broken former leader that started to come apart in October when the market corrected sharply, as we can see on the daily chart, below. After Wednesday’s sharp reversal and breakdown at the 20-day moving average, NFLX tried to rally on Thursday. But that turned out to be a one-day wonder rally when the stock staged another outside reversal and closed at a lower low as volume picked up on the day. For now, our near-term downside target remains the mid-October low at 331.
U.S. Silica Holdings (SLCA) was able to push back above its 20-day moving average on Thursday, but Friday saw the stock reverse and close down on higher volume, as we can see on the daily chart, below. SLCA is somewhat instructive in that it shows how once the 20-day moving average, which had been our reference point for a short-sale entry point, is pierced, the stock then moves up to find resistance at the top of its current bear flag range that it has formed over the past three weeks.
This is something to keep in mind when trying to enter short positions in short-sale target stocks as they are rallying. If they push back the 20-day or 50-day moving averages, something that is in fact not uncommon in short-sale target stocks that are rallying within their overall bearish patterns, then one should be on the lookout for possible price resistance (as opposed to moving average resistance). This would occur at either the top of a bear flag range, as this example shows, or the peak of a prior right shoulder in the pattern as we saw in TSLA.
Thus I can conclude that SLCA could have been shorted on Friday as it approached the November 3rd peak at 47.30, reaching a peak of 47.04 before reversing and closing down. Short-sellers need to be flexible and alert to where potential areas and points of resistance might arise as the stock rallies within a bearish formation. While not necessarily cut and dried, and most certainly requiring some flexibility, this is the way you handle a rally in a short-sale target stock.
Amazon.com (AMZN) is a good example of a short-sale target stock that just doesn’t want to fail at potential resistance. It pushed through the 50-day moving average last week and then continued right on through the 200-day moving average this past week, as we can see on the daily chart, below. We finally saw the stock reverse and close near the lows of its daily range on higher volume Friday, and it is possible that this is where AMZN finally runs into resistance.
Thus if one still feels in the mood to short the stock after being stopped out repeatedly, this might be the spot. It also coincides to some extent with the peak of the right shoulder in its secondary head and shoulders that formed in early September and can be seen on the left side of the chart. Thus one could use the 338.33 intraday high of this past Friday as a new upside stop.
Another point I should make with this example is that, in my experience as a long-time short-seller, when it works it tends to feel easy as the stock immediately gives it up and reverses lower. When a stock acts in a stubborn matter, and right after I short it just continues moving higher or simply holding up, I will usually just cover it right away and go look for something “softer.”
Rallies in short-sale target stocks can often go much further than we think. Usually this doesn’t change the overall bearishness of the macro-chart pattern, and so it is just a matter of waiting for when the time is ripe to come after the stock again. You can see this concept of waiting for something to “ripen” evident in the example of NFLX, shown further above, for instance.
My two very successful big-stock bio-tech short-sale targets, Biogen Idec (BIIB), not shown, and Gilead Sciences (GILD), shown below on a daily chart, continue to move in short bear flag formations. Only GILD remains in a position where it is not floating in “mid-air” so to speak. As I wrote in my report of this past Wednesday, while BIIB is still hanging in mid-air after splitting wide open the prior week, GILD is building a short bear flag where the 65-day exponential moving average provides a reasonable reference point for upside resistance.
So far, that idea is holding up. I’m still looking for the stock to eventually move through the mid-October low at 91.73 and meet up with the 200-day at 89.71 (or the 40-week moving average at 89.68 on the weekly chart – remember you have to monitor both chart intervals). If one wants to enter the stock right here as a short-sale, then using the 65-day line at 103.32 as your upside stop seems reasonable to me.
On Wednesday I discussed the “radical” idea of looking for a short-sale point in Celgene (CELG). This was based on the fact that it has recently staged a potentially late-stage breakout and the other big-stock bio-techs have already come apart. There is a chance that the stock could follow suit and begin to correlate more to the group.
As we can see on the daily chart, below, CELG has moved right back up to the highs of this short bull flag it has built during November, but it did stall a little bit on Friday as volume picked up. The heavy-volume selling last week that found support at the 20-day average is the first sign that somebody is interested in dumping the stock up here, but this remains unresolved. What I would be watching for here is an eventual move lower in GILD and BIIB that correlates to a breakdown in CELG from here as weakness in the overall group begins to spread.
As another reference in seeing how my bio-tech short-selling theory plays out, I think it is important to keep an eye on Alexion Pharmaceuticals (ALXN) as well. As we can see on the daily chart, below, ALXN gapped up and broke out of a long, wide-ranging and sloppy base. This could be seen as a sort of long handle to a “ladle-with-handle” formation that began forming in late February 2014. All that is shown here is the handle portion, but the left-side peak of the ladle is at 185.43, just below where the stock closed on Friday at 191.02.
As the stock moves tight sideways in a short bull flag formation, notice how upside buying volume has diminished sharply over the past week, while downside reversals and resistance off the 197.64 peak of the short flag have seen heavier selling volume. Watch this one for a possible failure through the 20-day moving average. If this occurs, my bet would be that CELG is probably doing the same thing at the same time while BIIB and GILD break down further in their pattern.
The basic question here is whether the perceived strength in CELG and ALXN outweigh and pull BIIB and GILD out of their broken-down funk, or is the weakness in BIIB and GILD a sign of further weakness to come in the rest of the group. Keeping an eye on all four of these stocks will most certainly yield the answer as things play out over the coming days and weeks.
I always watch rallies in broken-down former leaders with great interest, waiting for the precise time to pounce on the short side. On Friday, one such opportunity emerged in real-time in Splunk (SPLK) which gapped up with the market that morning after bearing on earnings when they announced after-hours on Thursday.
As we can see on the daily chart, below, SPLK gapped up on Friday and reversed hard on very heavy volume, closing 18 cents off of its absolute intraday low. I used my 620 5-minute intraday chart to catch an intraday sell signal at around 70.30 and go short the stock in size. This enabled me to catch another 5% plus of downside movement. I should point out that I was not simply throwing mud at the wall, hoping that the stock would reverse here. There was in fact a broader rationale for shorting SPLK on this gap-up, and that can be seen in the weekly chart.
As the weekly chart of SPLK shows, below, the stock topped in brutal fashion back in late February during the general market correction that got going in early March. That reversal off of the 106.15 peak and back through the 100 price level actually made the stock a short-sale target based on using Jesse Livermore’s “Century Mark Rule” in reverse. The great trader did this when shorting Anaconda Copper back in 1907.
That brutal breakdown eventually washed out all the “near-term” sellers in the stock in June 2014, and SPLK set off on a five-month rally from there. Coming into this past Thursday’s earnings report, we can see that this five-month rally has steadily lost steam in terms of upside weekly volume. This is especially so over the five weeks preceding this past week. You’re also coming up to an area that lies along the 70 price level and the lows of the left shoulder in the giant head and shoulders formation SPLK has formed over the past year.
So while this rally in SPLK has carried past its 10-week/50-day and 40-week/200-day moving averages, it has now reached an area of logical resistance from the left side of the pattern on a five-week wedging rally on very light weekly volume. This set up this past week’s churning/stalling move on much heavier, above-average weekly volume.
Using my 620 intraday chart, and some basic ideas about where this rally might run out of gas while taking an opportunistic view of Friday’s earnings-related gap-up, helped me set up a short position in SPLK in a very favorable position around the 70 price level. This remains a trailing stop for me with this position currently. SPLK closed just above the 10-day moving average on Friday. Confirmation of its failure would likely be found in a breakdown through the 10-day line and the 20-day line that currently lies at 64.60.
SolarCity (SCTY) was one of our old short-sale “flames.” This played out very well for us since failing from a late-stage POD-with-handle formation in September and then undercutting the lows of the pattern> We can see this on the daily chart, below. SCTY is now coming back into focus as a short-sale target. We can see how the undercut of the POD lows in October led to a quick rally up into the 10-week moving average that quickly failed, resulting in a big outside reversal week to the downside on heavy volume.
The past two weeks have seen the stock rally back up into the 10-week line on very tepid weekly volume. SCTY actually posted a 19-cent profit when it announced earnings a couple of weeks ago. This has not led to any significant upside in the stock as it basically works on a short bear flag, as I see it. In my view SCTY is shortable again using the 50-day line at 56.26 or the 10-week line at 56.31 as your guides for an upside stop.
Notice, however, that the two moving averages do not lie very far apart, which is generally the case, although I do recommend that one always monitor where a stock is trading relative to its various key moving averages on both the daily and the weekly time frames.
Some notes from my trading diary regarding stocks discussed in recent reports are below. If a stock is not mentioned, then my view is essentially unchanged from the last time it was discussed in the report. As I wrote in my report of this past Wednesday, I still consider the long side of the market to be more risky at this point. That has been proven out in several of my prior long ideas that, as far as I’m concerned, are off the table for now.
Bitauto Holdings (BITA) – still holding its cup-with-handle breakout, but not making much progress here as it dips back below the 90 price area even as the general market moves to higher highs.
Blackhawk Network Holdings (HAWK) – stock was trending higher until this past week when selling volume began to overtake buying volume. This occurred as the stock broke below its 20-day moving average and the 35 price level, and as it moves closer to its October 28th pocket pivot.
ServiceNow (NOW) – after showing some good upside movement throughout late October and early November, the stock has slumped back into its prior handle within an overall ladle-with-handle type of formation. At the same time, it is flopping around on top of its 50-day moving average. On Friday, NOW gapped up with the market but reversed and closed slightly down on the day, pretty feeble action for a potential, nascent leader in this market “rally.”
Taser International (TASR) – reversed to the downside on heavy volume this past Friday and through the 10-day moving average on Friday. Interestingly, weak action on a day when the general market started out with a big upside gap-up. But right here the stock is holding the top of the cup-with-one-week-handle formation and its 20-day moving average. A breakdown through these price levels would spell trouble for TASR, although I tend to think Friday’s showing might already be flashing a warning sign.
Trinet (TNET) – still holding the 10-day moving average well as volume dries up. So far no breakdowns here!
The crowd appears to remain enamored with the general market as the indexes churn higher, but “on the ground” I get a very different sense of what is going on here. We do see some big-cap names like Apple (AAPL) and Visa (V), forge higher. But the fact is that throughout 2014 fewer and fewer stocks are leading the rallies. If we look at the NASDAQ Advance-Decline line, below, we can see that, since March, breadth has been on a steady downward trend. Most recently, as the NASDAQ makes new 14-year highs, we are seeing breadth actually taper off.
When I combine this with my visceral experience currently, where I find it easier to make money on the short side, I have no choice but to be at least cautious. However, the aggressiveness with which I’ve been playing the short side and the ensuing “love” that I have received from these trades actually makes me a deeply growling bear in practice, at least for the time being. Thus I would have to say that right here, right now, my mouth has to be where my money is. Draw your own conclusions.
CEO and Principal, Gil Morales & Company, LLC
Managing Director and Principal, MoKa Investors, LLC
Managing Director and Principal, Virtue of Selfish Investing, LLC