The Gilmo Report

October 24, 2018

October 24, 2018

The descending triangle we were seeing in the largest and narrowest market indexes as of Monday night, as discussed in my video report that evening, came to ugly fruition yesterday. The market gapped down sharply at the open, sending both the 30-stock Dow Jones Industrials and the NASDAQ 100 Index below their 200-dmas. As the Dow streaked over 500 points lower, visions of a 1,000-point sell-off perhaps danced in investors’ heads.

But the QE market does not go away that easily. After breaking below the prior October lows, the Dow, the S&P 500, and the NASDAQ Composite all turned and rallied, triggering an intraday undercut & rally move by these three major indexes. That sent late shorts scurrying for cover, and the Dow pushed all the way back near the unchanged line before losing traction and sliding to a close of down -125.98, or about ½ of a percent.

Investors were perhaps set for a continuation of yesterday’s U&R action this morning, but the market remained incoherent, with the Dow and the NASDAQ 100 breaking below their 200-dmas early in the day. The Dow eventually broke below yesterday’s lows on an ugly outside reversal to the downside on much higher volume. No magical U&R levitations today, and this is an interesting divergence from similar pullbacks in this market over the past couple of years.

 

GR102418-$INDU

 

The NASDAQ 100 Index led on the downside with a sharp decline of -4.63% on much higher volume, busting its 200-dma and several prior lows in the process. As I noted in my Monday video report, this was what I was looking for in both the Dow and the NASDAQ 100, and to some extent the action yesterday and today offered a bit of a double-dip trading opportunity for anyone trading the SQQQ or SDOW inverse ETFs using the 620-method.

 

GR102418-$NDX

 

Note that the roughly flat open for the NASDAQ and the NASDAQ 100 set up an entry opportunity in the ProShares UltraPro Short QQQ ETF (SQQQ) even before the opening bell today. The MACD cross occurred just after 5:00 a.m. Pacific time, my time here on the West Coast, right around the 13.30 price level. From there, the SQQQ never looked back, but today’s 620 chart is a very good case study in how to use the chart to handle a position in the SQQQ or any other leveraged inverse index ETF.

Note that after the initial MACD cross before the open, the SQQQ kept moving higher, and a cushion was quickly established. The SQQQ quickly pushed above the 13.50 level and was trading around the 14 level well before midday. Note that between 7:00 a.m. and 9:00 a.m., the MACD lines crossed negative twice. However, on both of those crosses, the 6-period exponential moving average held above the 20-period moving average.

So, given that one had a very nice profit cushion once the MACD began to cross negatively, one could have waited for a moving average cross where the 6-period moves below the 20-period. Otherwise, one could have stayed with the position, which then started going somewhat parabolic into the close.

Remember, that the whole point of playing these inverse ETFs using the 620-method is to catch a decent-sized move. We’re not playing for nickels and dimes. In this case, the inflection point occurred early in the morning when the futures, which were very negative overnight, rallied to almost unchanged and then began to falter just before the open. This resulted in a mostly unchanged-to-slightly up open, depending on which index you were looking at, which then reversed badly.

 

GR102418-SQQQ Intraday

 

The NASDAQ Composite Index has been much weaker than the narrower NASDAQ 100 since it broke back below its 200-dma four trading days ago. Since then it has trended steadily lower and split wide open today on higher and very heavy trading volume. This looks like a pre-crash move, so we’ll see where this all goes in the coming days.

 

GR102418-$COMPQ

 

The S&P 500 Index held out above its 200-dma one day longer than the NASDAQ, busting the line on Monday. After yesterday’s undercut & rally move off the intraday lows, the index never made it as far as its 200-dma before breaking to lower lows today on heavy volume.

 

GR102418-SPX

 

What struck me most about yesterday’s U&R attempt by the three most-watched market indexes was the lack of similar U&R action in individual stocks. I tweeted early in the day this morning, “Usually when the indexes pull U&Rs you will see a broad number of U&Rs in individual stocks as they sync-up with the market…this time around there have been fewer.”

This was a bearishly subtle difference, as we discovered today. If there were any U&R attempts in stocks on my short-sale watch list, which consists almost entirely of stocks that were on my long watch list a month ago, they were short-lived.

Roku (ROKU) was last shortable on the rally up to the 20-dema last week and has since continued lower. Yesterday it undercut the prior buyable gap-up (BGU) and base-breakout of early August after earnings and rallied. That looked like a potentially good U&R type of long set-up, and technically could have been tested on the long side.

Unfortunately, that U&R was short-lived, and one would have been stopped out today as ROKU reversed back below the prior 52.31 BGU intraday low of August 9th. That led to a lower closing low as the stock moves closer to its 200-dma on a closing basis. This type of U&R failure, combined with the index action today, would appear to indicate lower lows for this market.

 

GR102418-ROKU

 

Coming in and shorting stocks when the market has already been sold down to what the pundits pointlessly refer to as “correction territory,” is not easy. When everything has been beaten to a smooth, pasty, pulp, taking a new position in a short-sale target at potential resistance keeps one looking over their shoulder for any kind of general market snap-back that can send their new short positions rocketing right up their nose.

But, one cannot be afraid of getting stopped out, since that is a normal part of trading and investing. Therefore, persistent and fearless (as you should be if you are a short-seller) short-sellers would have finally struck gold today when Fortinet (FTNT) finally reversed sharply off the 20-dema after sticking to the moving average over the past week. This begins to complete the right shoulder of a fractal head and shoulders formation that has formed over the past two months.

Interestingly, volume today was -61% below average, as if buyers had simply evaporated. Volume or not, today’s move is also a failed, wedging rally into the 20-dema that gave it up in a big outside reversal to the outside. So, FTNT was one short-sale target one could have come after, even with the market already in deeply oversold territory, because today oversold became even more oversold!

 

GR102418-FTNT

 

A fractal head and shoulders formation like FTNT’s can also be seen in another formerly hot but now busted leader, Square (SQ). Another notable feature of SQ’s pattern is a failed U&R move that began two weeks ago when it undercut the early August lows and then gapped higher. It eventually ran into resistance along the 10-dma, and has slid lower from there, bumping its little square head up against the 10-dma the whole way down.

The fact that the amazing SQ, upon which one analyst bestowed a $115 price target right near the top, can’t even get past the 10-dma speaks to the weakness of this market. To me, it is evidence that money wants out of high-PE-expansion stocks, and fast. Today’s move completed a right shoulder in the fractal H&S formation.

 

GR102418-SQ

 

I provided members with my initial short-sale watch list over the weekend, but my full list is much larger. I only gave you a partial list because I wanted you to add names that you had which were previously on your own long watch list before the market started to come apart. In any case, there are so many busted patterns, many of which look like fractal H&S formations not unlike FTNT and SQ, that I find myself somewhat amazed by it all.

The persistent selling and weakness in these names, some of which were absolutely on fire and which appeared invincible back in September, is astounding. However, it lends hard evidence to my original theory that stocks which had experienced huge PE-expansions during the summer QE uptrend were the most vulnerable to breakdowns once the market began to top.

When we can find something on our short-sale watch list rallying into the 20-dema, even with the indexes and many leading stocks in theoretically oversold (that keep getting more oversold) positions, it is possible to take a shot. That was the case with Etsy (ETSY), which is an online crafts retailer that has been sporting a massive PE-expansion for some time. Even at today’s close of 41.81. the stock sells at more than 60 times next year’s annual earnings.

ETSY rallied today on a lame analyst upgrade from negative to neutral, with the analyst admitting that his bear thesis on the stock was wrong. I don’t know about you, but the chart seems to be telling me that if he was wrong before, he was starting to look more right until he switched his views today. In any case, that created a baloney rally up to the 20-dema that promptly reversed and closed in the red on heavy selling volume.

You might notice that today’s reversal looks like the peak of the right shoulder in a fractal head-and-shoulders formation that has formed since late August. It also has a double-top type of head on it, which preceded the steep decline in early October. This looks like it’s headed lower from here, with earnings due out in less than two weeks.

 

GR102418-ETSY

 

Another characteristic of short-sellers is persistence. PayPal (PYPL) is to me a shortable earnings-related gap-up within a busted formation. The trick here, however, is in being persistent enough to keep hitting the stock until it finally gives way.  Trying to short it on Monday or yesterday was less reliable since it was stuck in the area between its 50-dma and 200-dma. Once it got to the 50-dma yesterday, the stage was set for a more concrete short-sale entry opportunity.

That occurred today, when PYPL reversed back below the 50-dma in sync with the general market’s reversal. It then streaked all the way back near its 200-dma on heavy and above-average selling volume. From here, any feeble rally back up into the 50-dma might present another short-sale entry opportunity, but a breach of the 200-dma would also trigger a short-sale entry if the stock ends up moving lower from here.

 

GR102418-PYPL

 

Over the weekend I theorized that perhaps China and maybe Russia were cashing in their U.S. Treasuries to buy gold, based on data that showed China continues to liquidate its holdings while Russia has entirely liquidated its own. What’s interesting to note here is that gold currently seems to be negatively correlated to the market while it moves higher with the dollar.

Usually, a dollar rally is a negative for gold, but it appears that something else is at play here in gold’s persistence since posting a bottom-fishing buyable gap-up (BFBGU) move through its 50-dma. SPDR Gold Shares (GLD) posted its highest close since late July and since the prior BFBGU of two weeks ago. Technically, the GLD is still not wildly out of range of that BFBGU, since the intraday low of that move was 114.09, and the yellow metal ETF is only 2.5% higher.

Personally, I’d rather be shorting this market than buying gold since the profit potential has been far greater. However, I find movements in the yellow metal relative to the general market action among stocks to be interesting, since I still hold a long-term position in gold dating back to early year 2000. But with respect to who or what is buying gold here, I would note that recent U.S. Treasury auctions have had a soft bid, which indicates a lack of buyer interest. With China no longer buying our debt, and other countries reducing their holdings of Treasuries as well, who will finance the coming cavalcade of $trillion deficits coming down the pike?

 

GR102418-GLD

 

When it comes to busted big-stock leaders, I noticed today that Netflix (NFLX) broke back below its 200-dma and posted lower lows, while Amazon.com (AMZN) closed below its 200-dma, ahead of tomorrow’s expected earnings report. After a brief sting forming a short five-day bear flag just under its 200-dma, Nvidia (NVDA) split wide open today and broke to lower lows on heavy selling volume. Apple (AAPL) reversed back below its 50-dma today, triggering a short at the moving average before it closed near last week’s lows.

Lumentum (LITE) split wide open over the past two days and was last shortable just above the 50-dma. This was one of the few short-sale targets that was in a very optimal position coming into the week, as I discussed in my weekend report. It then went crashing through the 50-dma on Monday, triggering a short-sale entry at that point, and moved back to its early-October lows today in what has been a three-day decline of nearly 20%.

As I’ve discussed in recent reports, our shorting strategy currently will seek to take advantage of earnings-related gap-up moves in broken-down former leaders. PYPL, NFLX, and CAT are recent examples. After the close today, Microsoft (MSFT) reported earnings and is gapping up as I write, bidding just above 105. This may set up a shorting opportunity tomorrow, or in the coming days, depending on how this plays out, so keep a close eye on it.

 

GR102418-MSFT

 

In my Monday video report, I noted that Boeing (BA) was a late-stage, failed-base, short-sale set-up that was still forming ahead of earnings coming up today. The company reported earnings this morning before the close, and immediately gapped up. This had the effect of turning the futures around, after they had sold off sharply overnight and we looked like we were headed for a big gap-down market open.

Thanks to BA, that was not the case, and the stock opened the day just above its 50-dma, then broke below the line early in the day. It then marched back up to its highs before running into resistance at the 20-dema. If not for BA’s move, the Dow would have looked much worse at the open than it actually did, and this was something I made a careful note of. My thinking was that I could key on the Dow and use the SDOW leveraged inverse ETF as a vehicle for trading the reversal in the Dow while also keying on BA’s intraday action.

As I tweeted during the day, if BA broke down, then obviously the Dow would bust further to the downside. Thus, one could have played this by either shorting BA at the 20-dema or going heavy long and laying deep into a position in the SDOW at the appropriate moment. Toward the end of the day, BA broke back below the 50-dma on a big, high-volume stalling gap-up move, sending the Dow down over 600 points.

This is a good example of how I keyed on the Dow’s biggest component, BA, as a way of playing the SDOW and knowing when to lay into a large position at exactly the right time during the day. Once the Dow had reversed and was down 200-300 points, my SDOW position was profitable, of course. But the late-day breakdown in BA was the signal to go berserk, and the Dow plummeted lower from there.

From here, rallies up to the 50-dma at 359.94 would offer lower-risk short-sale entries. So far, BA is acting like a textbook, late-stage, failed-base (LSFB) short-sale set-up where the 20-dema serves as resistance once the stock fails and breaks below the prior base breakout point. When textbook stuff like this is working so well, when it hasn’t worked so well during these latter stages of the QE bull market, you know how things are getting bad!

 

GR102418-BA

 

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.

With the market still way down there, so to speak, oversold has simply become more oversold. When and where we see an oversold rally is yet to be determined. It’s possible we may need to see some sort of climactic, panic low where the Dow is down over 1,000 points, maybe 2,000. Maybe more? Who knows.

All I know for sure is that the short side continues to be the place to be and fading rallies this week has been very profitable. It ends when it ends. In the meantime, each morning I quickly sort my short-sale watch list by stocks up the most at the top, so I can easily see where the rallies are, and where they might become shortable.

This morning I saw 3D-printer Three D Systems (DDD) rallying up to 18 after an analyst went to equal-weight from underweight and put a $17 price target on the stock. Despite the $17 price target, investors seemed intent on buying even higher, pushing up to a peak of 18.26. It hung along the $18 price level all day, but finally backed down below the 20-dema by the close.

 

GR102418-DDD

 

This morning DDD was one of the stocks at the top of my short-sale watch list when sorted for biggest upside move, so that brought it right into the cross-hairs of my short-selling stun gun. This is a good example of what I hunt for each and every day as long as the market remains in a downtrend. Others that hit my early-morning sort were FTNT, ETSY, and BA. This will remain the case since most stocks on my short-sale watch list continue to sell off, so the only short-sale opportunities occur on bounces.

Overall, things look ugly. But things can always change drastically overnight. Stay alert and watch those 620 charts, since in a market downtrend up openings followed by down closes represent the market’s bearish signature, and these have produced a number of inflection points over the past three weeks where one can use the 620-method along with the SQQQ, SDOW, SPXU or other inverse ETFs to score when the indexes reverse after an up open.

For now, the trend remains your friend, especially if you are a short-seller or at least holding cash. That is all.

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 a position in SDOW, 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.