The Gilmo Report

October 26, 2014

October 25, 2014

The NASDAQ Composite Index and the S&P 500 Index have both moved up to their 50-day moving averages, with the NASDAQ just barely closing above the line on Friday, as we can see on the daily chart, below. While the rally off of the prior week’s lows remains quite intact, and no failure of Tuesday’s follow-through day has occurred, the primary problem here is finding leading stocks in buyable positions that also do not require playing earnings roulette as we move through the thick of earnings season. Over the past few days we’ve already seen with names like Amazon.com (AMZN), Netflix (NFLX), Pandora Media (P), and Yelp (YELP) just how harmful to your health playing earnings roulette can be if you’re on the wrong side of the trade. However, I’ve been on the right side of those names from time to time, and in this difficult environment I am now starting to see some initial “sprouts” among potential leading names on the long side, which I’ll get to later in this report.

 

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The monthly Fed policy announcement is on the docket for this coming week, on Wednesday to be precise, and with the market expecting QE to come to an end in October, there is always potential for an October surprise from the Fed. If the Fed comes out with something “dovish” or hinting at the prospect of further QE, the market could get out of hand on the upside. Currently the crowd seems to be expecting that the sharp rally off of last week’s lows needs to retest those lows. I, frankly, would consider the possibility of expecting the unexpected, which means the indexes simply pause here along or just under their 50-day lines before launching higher. In the meantime, on a practical basis, I think it is just fine to treat the market as a market of stocks, focusing on individual set-ups, long or short, as they emerge in real-time.

Despite the sharp market rally over the past six trading days, there have been a number of earnings blow-ups in short-sale target stocks. Yelp (YELP), which I discussed in my Wednesday report as being a possible shortable gap-down, was quite playable Thursday on that basis. As I tweeted on Thursday, using the 62.26 intraday high as a guide for an upside stop on the gap-down was the proper strategy, and that would have yielded further downside. Now I tend to think the stock is short-term sold out, and would watch how any rallies up to the 62.26 level unfold. Further, immediate downside in YELP may turn out to be a function of where the general market goes from here.

 

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In my Wednesday report I also discussed the likelihood that Amazon.com (AMZN) would likely hit my 285 downside price target on a gap-down move following Thursday’s earnings report. Lo and behold, that’s exactly what happened, as we can see on the daily chart, below. While it might be tempting to try and treat this as a shortable gap-down, I would tend to see this as an undercut of the May low that has reached my initial downside price target. As they say, bulls make money, bears make money, and pigs get slaughtered, so figure it out if you happened to be short the name into earnings.

 

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Apple (AAPL) is still trying to inch its way out of this current seven-week base but its progress has been quite muted, as we can see on the daily chart, below. As I wrote on Wednesday, given the stupendously positive news in Monday’s earnings report, AAPL’s upside reaction has been quite tepid, at best. Thus while it may continue higher in a continued market rally, I don’t think it’s the place where you can expect the biggest bang for your buck, at least on the long side.

 

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Alibaba (BABA) followed through nicely on this past Tuesday’s pocket pivot coming up through the low-base range around the 91-92 price level, as we can see on the daily chart, below. BABA is coming up the right side of an IPO U-Turn type of formation, and may pause here as earnings come up in early November. On Friday it ran into resistance at the highs around the $100 price level that BABA hit on its first day of trading a month ago. It could settle back in here to build a small handle as it goes into earnings in early November, and I would keep an eye on this for pullbacks into the 92-94 price area.

Barring that, a buyable gap-up move on the earnings report might be another entry point that has the added advantage of avoiding earnings roulette. If the market remains in rally mode at that time, I don’t see the company coming in with a terrible report. With AMZN tanking, BABA could see institutional money shift its way.

 

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New merchandise in the form of recent IPOs and newer companies with newer products, services, and business theme is the lifeblood of any market rally. In my view, the appearance of new merchandise plays helps to validate the profit potential of the general market rally. As examples, in 2014 we’ve seen new-merchandise names like GoPro (GPRO), Mobileye (MBLY), and Palo Alto Networks (PANW) have significant price runs during this year’s market rally phases. When the market gets going on the upside, this is the kind of stuff that I focus on, and it is one reason why I am up significantly in 2014. The good news is that there are some new “sprouts” out there.

In this spirit, and in the hunt for new merchandise, my IPO screens spit out CyberArk Software (CYBR) recently. According to the company’s website, CYBR “is the only security company laser-focused on striking down targeted cyber threats, those that make their way inside to attack the heart of the enterprise. Dedicated to stopping attacks before they stop business, CyberArk is trusted by the world’s leading companies — including more than 35% of the Fortune 100 companies — to protect their highest-value information assets, infrastructure and applications.”

The company came public about a month ago at $16 a share, and as we can see on the daily chart, below, was a big hit, more than doubling up on the offering price on the first day of trading. Since then the stock has traded in a high, tight flag formation, and volume has been drying up as the stock moves along the 10-day moving average. We can see on the chart that the stock is going “Code Blue” here as it flashes a five-day pocket pivot off the 10-day moving average. I think this is buyable here using the Friday low at 28.67 as a selling guide. CYBR is expected to announce earnings on November 12th.

 

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Trinet (TNET) is another recent IPO that came public in March of this year at $16.  On September 12th they priced a secondary offering of 12 million shares at 25.50 a share, and the market readily absorbed that additional supply. TNET provides outsourced human resources service to small- and medium-sized business, which gives them a nice little growth niche. There is a lot of babble about the company having a rich valuation, but the fact is that it sells at 20.6 times next year’s earnings estimates of $1.36. Meanwhile, TNET flashed a pocket pivot buy point on Thursday as it attempts to round out its second base formation since coming public. I would use any small pullback below 28 as a buying opportunity. Earnings are expected to be announced on November 4th.

 

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ReWalk Robotics (RWLK) is a recent IPO with a very compelling business making artificial exoskeletons that enable people with spinal cord injuries who cannot use their limbs to sit, stand, and walk. The company claims to be on a mission with a very innovative medical product known as the “ReWalk™.” As the company’s website says, “The ReWalk™ is the result of this mission. It is a world-class walking system that will allow paraplegics to bring walking into their daily lives once again.  Culminating over a decade of research and development, the ReWalk™ represents the first truly practical, real world, walking solution for persons with lower limb disabilities.”

This is the type of medical/bio-tech situation that can provide investors with a compelling theme that can drive higher prices, even if it still hasn’t made a profit, not unlike the way the compelling theme in GW Pharmaceuticals (GWPH), not shown, drove a big upside move in that stock over the prior year from an IPO price of $8.90 to a peak of $111.46. RWLK came public in early September at $12 and immediately tripled in its first two days of trading. It has since spent the last six weeks drifting downward in a flag formation as volume dries up sharply. We can see that a little less than two weeks ago the stock undercut the September 12th low at 26.12, rallied back up to the 30 level, and is now drifting back in a “Wyckoffian” retest as volume dries up in the extreme.

This looks buyable to me on the retest, but one could wait for a pocket pivot or other buy signal to develop as the stock potentially comes back up through the 10-day line. While no actual date has been announced, based on the prior interval of earnings reports for the company, I would expect that RWLK will announce their latest earnings sometime within the next few days, so keep an eye on this one.

 

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ServiceNow (NOW) is a cloud-based IT software company that came public in June of 2012, and has already had a decent price run since forming its first base and breaking out in late April 2013. That price run ended in February of this year, and the stock has since spent seven months, roughly, building a cup-with-handle base with a handle long enough to give it more the look of a “ladle-with-handle” formation, as we can see on the daily chart, below.

NOW is making the shift to consistent profitability after announcing a 200% earnings increase on Wednesday after the close and beating earnings estimates by 2 cents, coming in with a hard number of 3 cents a share. On Thursday NOW broke out of the handle on very heavy volume, and this also qualifies as a pocket pivot. The prior peak in the handle is 64.98, so I would expect the stock to hold that level or just below, say down to around 63. While I am not necessarily a fan of buying breakouts in this market, this is a “new merchandise” situation that is showing a buy point right here, right NOW, pun intended.

 

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News came out this week on Tesla Motors (TSLA) indicating that Daimler-Benz had unloaded their 4% position (originally 11% before it was diluted) in the company, but that didn’t seem to faze the stock. In fact, there was another story speculating that Daimler sold its stake to BMW, and what I’ve noticed over recent days is that the stock isn’t seeing much in the way of persistent selling interest. As we can see on the daily chart, below, TSLA has been finding support along the 10-day moving average as volume has dried up.

Thus going into the early November earnings report it is not clear to me that the stock has more downside in it. Last quarter some of the big funds that have owned the stock for some time added to their position, but that data is only current as of the end of the June quarter. New sponsorship data should be out any day now, and I will be paying close attention to that to see whether any of the big “axes” in the stock are starting to exit their position. I remember when AAPL topped back in 2012, Fidelity ContraFund was one of the big holders of the stock, and the filings showing that they were selling their stock around the top were quite telling at the time. I would pay similar attention to TSLA’s most current sponsorship data when it comes out.

 

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LinkedIn (LNKD) is also tucking into its 10-day line with selling volume drying up, as we can see on the daily chart, below. LNKD is expected to announce earnings next Thursday, so it in my view is best to leave the stock alone, particularly if and as the general market rally continues.

 

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U.S. Silica Holdings (SLCA) has been finding resistance at the 20-day moving average, and after pulling down from the line Thursday and Friday it found support at the 200-day line, as we can see on the daily chart, below. SLCA is expected to announce earnings next Thursday, so my inclination is to leave this alone until then. The stock is deep down in its pattern, and unless we see the general market roll over here in a meaningful way, I don’t think you’re going to see much traction on the short side.

Another interesting trend that I am noticing currently is that suddenly everyone who emails or tweets me wants to know if they should short this stock or that stock. For me, this is a useful sentiment indicator, because my first question would be, where were all you wannabe short-sale artists in late September and early October when the market first started to roll over and we were catching names like SolarCity (SCTY) on the downside just as they were starting to break? One thing I know from nearly a quarter century of experience in the markets is that when everybody wants to short, or everybody is suddenly hot on the trail of the latest and greatest short-sale target stock, it may be too obvious. So think about that.

 

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This of course brings up the question of whether Biogen Idec (BIIB) as a late-stage failed-base situation is a great short here. If you are going to try and short anything here, one might consider BIIB to be in the best positon, but with other big-stock bio-techs like Celgene (CELG) and Gilead Sciences (GILD) moving to new highs this week the group pull is probably working to keep BIIB up. The stock has slid past the 200-day moving average and is now up to the 65-day exponential moving average, as we can see on the daily chart, which theoretically puts it in an optimal short-sale position. What I would do here is watch the breakouts in CELG and GILD, because if they start to fail then BIIB would probably be a good short candidate at that time. This would also probably coincide with the general market giving up on its rally, so shorting BIIB remains a contextual proposition right now, at best.

 

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Some notes from my trading diary concerning other stocks I’ve discussed in recent reports:

Netflix (NFLX) – stock running out of gas on its dead cat bounce and approaching the 10-day moving average at 392.30. Stock closed at 385.02 on Friday, and I would like to see what it does once it gets to the 10-day line. NFLX could remain a short-sale target even in the midst of a continued market rally, so keep this on your short-sale watch list.

Palo Alto Networks (PANW) – I actually bought some of this when the market reached oversold lows two Thursdays ago, but only traded it briefly on the V-shaped moved back up towards the prior breakout point. PANW has since “Veed” its way up to all-time highs! Earnings are expected in November, and PANW is unfortunately not in any buyable position here. If only I had expected the unexpected, and held onto the shares I was only looking to trade for a bounce. All I can say is, “LOL – expect the unexpected!”

Pandora Media (P) – blew up Friday on a poor earnings announcement, undercutting last week’s low around the 20 price level. Not a good spot to be shorting P given its extended state on the downside.

Twitter (TWTR) – expected to announce earnings Monday after the close. See what it does after earnings.

Also keep an eye on Mobileye (MBLY) and El Pollo Loco (LOCO) as they are expected to announce earnings this week. With respect to LOCO, there is some strength in the group as Jack in the Box (JACK), Burger King Worldwide (BKW), and Sonic Corp. (SONC), all not shown, are all acting very well. I’ll leave it to members to investigate those charts on their own.

On Wednesday my view was that the market’s follow-through day was failure-prone given the mass of volatile V-shaped moves and lack of buy set-ups. However, things change quickly in the market, and as members should know quite well by now, I let the market’s message unfold in real-time as I avoid taking a rigid bearish or bullish posture. The bottom line is that despite the sharp upside move over the past several days, stocks like AMZN and YELP provided some nice short-sale opportunities as they blew up in the midst of the recovery rally.

Thus I tend to think that our now time-honored approach of treating the market as a market of stocks and not just a stock market will keep one on the right side of things with respect to individual stocks. I also like the fact that I am starting to pick up some new merchandise on my screens, and this is encouraging because this is where I have found my best profit opportunities in 2014, a year where I am out-performing the market by about ten times.

Meanwhile, there is no reason to waste your energy playing “Wouldashouldacoulda,” wishing you had bought heavily on the oversold break down to the congestion area around the May lows. Investing is easy in hindsight, but money is not made looking backward, it is made looking forward. If this rally is for real, then the new merchandise will begin to percolate, and the encouraging initial sprouts that I am seeing in real-time will have much further to go. Meanwhile, I anticipate that this Wednesday’s Fed policy announcement could serve as a strong market catalyst, one way or another, so stay alert!

 

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 positions in CYBR, TNET, and TSLA, 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. ©2008-2018 Gil Morales & Company, LLC. All rights reserved.