The Gilmo Report

October 12, 2011

October 12, 2011

The last seven days have treated us to an amazing “floater” rally on poor breadth and light volume, which of course can place the rally’s validity in question. But somebody forgot to tell the market that it was rallying on poor breadth and light volume as it has just kept pushing higher, right into the mid-September highs on the NASDAQ Composite Index, shown below on a daily chart. In my view what is going on here looks somewhat normal for “chop zone” type action, even for a market rally within a longer-term correction or bear market. Without a follow-through day, it is simply not possible to step in here on the long side with any real confidence. Yet that does not keep the indexes and some former beaten-down leaders from zooming right back to the upside, sometimes in almost unbelievably straight-up fashion. Such rallies have also created quick stop-outs on the testing of any short positions into the rally, but it may be a matter of simply waiting out the rally with the idea of resuming short-sale operations if the market begins to roll over from what can be considered logical resistance in the 2643 level on the NASDAQ. Today’s action saw the index stall at that resistance level with volume picking up, so this might be an initial clue depending on how the next few days pan out.

NASDAQ Composite Index Gilmo Report Chart

With the European situation stuck in “neutral,” market participants have had time to adjust and most of the necessary institutional selling was likely completed when the market undercut its early August lows. Combine this with a fair bit of bearishness as determined by any number of sentiment polls, and you have the makings of a decent rally and bounce in the indexes. Without a follow-through, however, it is not clear where it goes from here. Today’s action looked primed for a follow-through as we moved into the last couple of hours of trading, but the indexes gave up about half of their gains going into the close, and the increased volume gives the indexes the look of stalling and churning for the day – potentially subtle distribution. The S&P 500 Index acted similarly to the NASDAQ today, and it is also moving up into prior resistance around the 1220-1230 area. With pretty much nothing setting up as a buyable long, and without a follow-through, we are left to stalking the short-side as we watch how the market handles resistance on this straight-up-from-the-bottom rally.

S&P 500 Index Gilmo Report Chart

Even if you wanted to buy some of these wobbly leaders, such as Apple, Inc. (AAPL), you can’t really move into a stock that, despite a sharp bounce off the 200-day moving average and back into breakout territory, is showing below-average buying volume on a “re-breakout” attempt. In fact, I saw the action right off the open and during most of the day in AAPL as something of an “island gap” move, and by the end of the day the stock had filled the upside gap, closing just above the flat line on the day. In my view it was possible to take a short position in AAPL on the island gap move, with the weak close helping to add confirming evidence to the short. It doesn’t have to work, but AAPL is so far not doing anything unusual for an LSFB type of situation, as the initial sharp break to the downside is often followed by a sharp rally, even back up towards and above the initial base-breakout level, which is around $400 in AAPL’s case. If AAPL breaks the $400 level it becomes an aggressive short using that level as an upside guide for a stop.

Apple, Inc. (AAPL) Gilmo Report Chart

As the NASDAQ Composite ran into resistance along with the other major market indexes, leading stocks did likewise, as we see in the daily chart of Baidu, Inc. (BIDU) shown below. BIDU previously reached our downside price target below the 114 level, continuing even lower early last week. That, of course, was a logical point to cover any BIDU short positions and bag profits. Since then, the stock has dutifully rallied back up into its 50-day and 200-day moving averages, skidding past the 200-day line today before running into the 50-day and turning tail. By the close, BIDU closed barely up 1.05% and just below its 200-day moving average on volume that was both heavier than yesterday and above average. In my view, BIDU becomes potentially shortable once again on this rally up into the 50-day/200-day moving average confluence, using the 50-day line at 134.76 as your guide for an upside stop. In my report of this past weekend, October 9th, I discussed the macro-technical picture with BIDU on its weekly chart, and this current rally appears to form the potential peak of a right shoulder in an overall head and shoulders top.

Baidu, Inc. (BIDU) Gilmo Report Chart

Priceline.com (PCLN), another big-stock NASDAQ leader, well former leader to be accurate, acted very much like BIDU today as it also rallied past its 200-day moving average before finding resistance at the 50-day moving average and then closing below the 200-day line, as we see on the daily chart below. Volume picked up today as the stock was denied a shot at regaining either of its two major moving averages, and so this becomes potentially shortable using the high of today at 503.98 or the 50-day moving average at 501.75 as an upside guide for a stop. Even tighter, one could use the 200-day line at 490.05 as a stop as well, assuming the stock opens below that moving average tomorrow. You can see how the weak-volume push over the past three days ended today with the highest volume as the stock reversed back to the downside. Thus I think if you’re going to try and short PCLN, this is the spot to do it, with risk of about 3% on the upside if you are stopped out. If AAPL is unable to hold the $400 level, and other big NASDAQ stocks like BIDU roll over, then it is likely that other big NASDAQ stocks like PCLN that are also rallying into resistance within potential short-sale set-ups like LSFBs and H&S formations will move lower as well.

Priceline.com (PCLN) Gilmo Report Chart

All of these short-sale set-ups we’ve been monitoring lately clearly illustrate how their action is usually dictated by the action of the general market. Each potential resistance level can be overcome as the stock rallies with the market, but eventually the stock and the market run into resistance and that is the point at which to begin looking at taking a short position in such a target stock. Fossil, Inc. (FOSL), which I will isolate here as my favorite retail short given its weaker action and overall Head & Shoulders top formation, pushed past overhead resistance around the 90 price level and skidded past its 200-day and 50-day moving averages before finding resistance at the higher 200-day line and then closing below the lower 50-day line. What may become critical for FOSL here is the “black cross” forming as the 50-day moving average crosses over the 200-day line to the downside. Oftentimes this is your clue that the stock has put in enough time on the right side of the pattern and may be ready to break down. I like FOSL short here using the high of today at 95.59 as my quick stop.

Fossil, Inc. (FOSL) Gilmo Report Chart

In the midst of this market rally I’ve noticed Green Mountain Coffee Roasters (GMCR), forming what is starting to look like a right shoulder within a potential, overall head and shoulders topping pattern, as we can see on the weekly chart below. As a short, GMCR is quite interesting to me given the fact that it has been one of the biggest leaders of the market’s rally since the market low in March of 2009, and has had a tremendous price run. We can clearly see the potential left shoulder and the head in the formation, and this recent rally up into the 10-week (50-day) moving average appears to be forming the peak of a possible right shoulder to complete the pattern. Today volume picked up sharply as GMCR rolled off of its 50-day/10-week moving average to the downside. Right now I’m using today’s high at 94.65 as a guide for an upside stop, about 5% from where the stock closed today. Given that GMCR sold off hard today on volume that was 122% above-average, more than twice normal, in an up tape tells me that the stock is likely to weaken very sharply here very soon.

Green Mountain Coffee Roasters (GMCR) Gilmo Report Chart

Some notes from my trading diary on other short-sale target stocks we’ve been following:

ACOM – stock continues to bounce with the market. I see shortable resistance at the 26-27 price level using the 50-day moving average at 29.02 as your guide for an upside stop.

BIIB – stopped out at 50-day moving average last week, but stock is running into resistance here at around the $100 price level where it ran into some volume selling. Potentially shortable here using the high of today at 101.44 as a quick stop.

CMG – stock stopped out any short positions at the $300 price level initially with the secondary resistance level at the 50-day moving average and the 310 price level also being taken out. However, CMG has rallied much less strongly than the market over the past seven days and is now finding resistance at the 20-day moving average at 314.42.

CMI – as I pointed out in my weekend report of October 9th, a stock like CMI rallying right up into its 50-day moving average is almost “too perfect” as well as too obvious, and the stock did rally past the 50-day moving average before finding resistance near the highs of mid-September in the high 90’s. May be shortable here using the high of today at 97.71 as a stop.

RAX – skidded past its 50-day moving average but remains below the 200-day line and prior resistance at around the 37-38 price zone. Potentially shortable here using the 200-day moving average at 38.40 as your guide for an upside stop.

SINA – finding resistance around the 80 price level and the 20-day moving average at 84.19. Potentially shortable here using the 20-day moving average as your upside stop.

SODA – Remains potentially shortable here at the 20-day moving average, using today’s high at 38.53 as your guide for an upside stop.

TIF – stock rallied past its 50-day and 200-day moving averages so far this week but runs into resistance in the low 70’s. While I prefer FOSL as a retail short given its weaker behavior, e.g., not being able to rally as far up in its pattern as TIF has, TIF is potentially shortable using the 73.51 high of today as a stop.

TIBX – stopped out at 24 level and waiting to see where this one goes from here.

For the most part, the stocks I’ve discussed in detail with charts, above, are my primary short-sale targets here as the market runs into potential resistance at the 2600 level on the NASDAQ and the 1220-1230 level on the S&P 500. I particularly like the set-up that is potentially developing in GMCR, and even if it doesn’t work right away on the downside I would continue to monitor the stock as a primary short-sale target stock given the technical set-up and its status as one of the biggest leaders in the prior bull phase. Given that there is virtually no leadership setting up in buyable positions or even constructive bases as the market continues to rally, my tendency is to consider that the probability of the rally failing at some point is the higher one currently. And of course as the market indexes come up into resistance one is certainly justified in testing short-sale positions in stocks that are mimicking the indexes as they also rally into their own resistance levels on their charts. I think one of the key stocks to watch here will be AAPL, as its low-volume move back up into breakout territory is questionable. A failure at the $400 price level would bring Jesse Livermore’s “Century Mark” rule into play that he employed in reverse to short stocks that failed at a key “Century Mark” level. When AAPL runs, the market runs as well, so if AAPL breaks then it may be the “tell” for the rest of the market, particularly since this recent seven-day rally has been led by the NASDAQ 100 stocks. Stay tuned.

 

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, and/or Gil Morales & Company, LLC held a position in AAPL, CMG, BIDU, and GMCR, though positions are subject to change at any time and without notice.

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