The Gilmo Report

October 28, 2018

October 27, 2018

Things got a little crazy over the past two days as the market once again acted like a cheap drunk on Thursday morning, gapping up sharply as it completely forgot about Wednesday’s ugly, bearish sell-off to lower lows. That move looked quite strong, with the NASDAQ 100 Index up 3.35% on higher volume, despite fading a bit into the close.

That set the stage for an after-hours futures reversal to the downside that ripped the Thursday rally to shreds, resulting in a sharp gap-down open on Friday. The alibi for all this was the disappointing earnings and guidance from Amazon.com (AMZN) and Alphabet (GOOG) which sent those stocks gapping sharply lower.

AMZN gapped below its 200-dma, dragging the NASDAQ 100 futures down with it, in after-hours trade on Thursday following the report. After a brief poking of its head back above the 200-dma it ended the day on Friday back below the 200-dma. The stock hasn’t traded below its 200-dma since February of 2016, back when it was at the lowly price of $570 a share. Now that’s a spicy meatball!

 

GR102818-AMZN

 

This all helped to send the NASDAQ Composite Index through the Wednesday lows before it rallied and closed mid-range on heavy volume. It’s hard to say whether this is supporting action, or whether the index is likely headed lower from here. However, we must be alert to the extreme oversold condition of the index and the potential for a sharp reflex rally back up toward the 200-dma at any time, particularly as the index drops into a prior area of price congestion from earlier in the year. Overall, however, the market is in a confirmed downtrend, as lower lows and lower highs rule the day.

In addition, we are seeing a great deal of intraday volatility that is accompanied by strong velocity. This results in sharp moves back and forth during the trading day and from day to day. Extreme volatility with extreme velocity creates what I called a “v-squared” condition that makes things difficult for traders on either side of the tape as buyers and sellers engage in serious battle.

 

GR102818-$COMPQ

 

My tendency is to think that the crowd is currently likely leaning toward the bearish side as the need to sell becomes more than obvious. Thus, I am looking for some sort of near-term low to set in, maybe on a panic low early next week, or maybe the indexes are already attempting to do so. I note that the small-cap Russell 2000 Index is so deeply oversold that it is now undercutting prior March and April lows, from which it rallied on Friday, closing near the top of its daily trading range on heavy volume.

 

GR102818-$RUT

 

The S&P 500 Index, like the Dow Jones Industrials and the NASDAQ, pushed to lower lows on Friday on an intraday basis before rallying back to the upside.  It ended the day about mid-range, and just above Wednesday’s bearish sell-off close. As with the other indexes, it is quite obvious at this point that the market is quite extended on the downside as oversold has become even more oversold.

 

GR102818-$SPX

 

Gold has continued to edge higher in a move that has been correlated to a move higher in the U.S. Dollar, which is unusual. While it is unusual, it is not unheard of, but the SPDR Gold Shares (GLD) has been running into resistance up above the $117 as it stalled on heavy volume twice over the past four days. As I wrote on Wednesday, the move in gold is interesting, but in terms of high time-value trades I think the short side and any potential reflex rallies in stocks make for better swing-trades, at least for now.

 

GR102818-GLD

 

In my Wednesday report, I concluded that lower lows for the market were a likely scenario, and that has been the case on an intraday basis. But things are getting quite volatile here, and the deer-in-headlights looks on the faces of the financial cable TV talking heads and perma-bull pundits may be one anecdotal indicator of a low setting in, at least for the very short-term.

Another piece of the puzzle is the fact that I’m seeing very little in the way of lower-risk, actionable short-sale set-ups. Those that came into play over the past few days, such as Fortinet (FTNT), Etsy (ETSY), Roku (ROKU) and PayPal (PYPL) are all out of position, and the most recent short-sale idea as of my Wednesday report, Three D Systems (DDD), has turned lower.

The stock ran into resistance around the prior high just above the 20-dema and reversed to the downside from there. It is now looking like it’s going to test the low of four days ago on the chart as well as the intraday low of the prior gap-up move of early August. DDD’s rally on Wednesday was the result of an analyst’s upgrade from underweight to equal-weight with a price target of $17, even though buyers pushed the stock as high as 18.26 on an intraday basis.

 

GR102818-DDD

 

PayPal (PYPL) has been a swing-trader’s delight as it seems to bounce between its 50-dma, where it runs into resistance, and its 200-dma where it finds support. It broke down to the 200-dma on Friday but closed just above the line after running up to the 50-dma on Thursday. In this manner, the stock mimics the volatile back-and-forth action of the general market. From here, rallies into the 50-dma would remain shortable, but a clean breach of the 200-dma would also trigger the stock as a short-sale at that point.

 

GR102818-PYPL

 

Tractor Supply Co. (TSCO) is interesting since it has now posted two pocket pivots at the confluence of its 10-dma, 20-dema, and 50-dma after reporting earnings Thursday before the open. Initially, given the state of the general market, I viewed this as a potential LSA type of situation since the stock ran into resistance at the prior base highs around 92 on Thursday and backed down.

Technically, however, Thursday’s action qualified as a pocket pivot. On Friday morning, I blogged about the stock as a possible late-stage base-failure that would be confirmed by a breach of the 20-dema. Someone anticipating this breakdown could have also shorted the stock closer to the highs of the base near 92, which I did early in the day.

The stock then sold down a couple of percent from there but forced me to cover my position when it held support at the moving average and turned on the 620i-intraday chart. I then blogged a little later that the stock was acting as a two-sided situation, where absent a breakdown through the 20-dema, which would confirm a late-stage breakout failure, it may in fact be setting up as a long.

Based on two days of pocket pivots right here along the moving average confluence, I would certainly entertain this as a long position using the three moving averages around 87.70 as a selling guide. If the general market can mount some sort of reaction rally this week, this could be a go-to name on the long side.

 

GR102818-TSCO

 

With AMZN breaking down after earnings, we are also seeing Netflix (NFLX) and Nvidia (NVDA) move further below their 200-dmas, while Apple (AAPL) and Microsoft (MSFT) sputter around just below their 50-dmas. AAPL is scheduled to report earnings this Thursday, November 1st, while MSFT reported Wednesday after the close, leading to a gap-up move into the 20-dema on Thursday.

The stock was shortable at the 20-dema on Friday morning, and it moved lower from there. It was only good for about 3%, so nobody was making big money shorting MSFT on Friday. In this position, we can still view rallies up into the 20-dema as potential short-sale entry points, although I would look for moves into the 50-dma as perhaps more optimal, if you can get ‘em.

 

GR102818-MSFT

 

As the largest component on the price-weighted Dow, Boeing (BA) mimics the back and forth action of the market over the past three days as it hangs along its 50-dma. I’ve been viewing the stock as a potential late-stage, failed-base (LSFB), short-sale set-up, using the 20-dema as an entry level for short positions in the stock. So far, BA hasn’t been able to clear the 20-dema, but nor has it broken down severely, at least on a percentage basis.

I think this is a good barometer stock to watch here. If it can clear the 20-dema, then it may attempt a re-breakout type of maneuver that coincides with any oversold reaction rally by the market in the coming days. If the market rolls lower, then the stock remains a short here using the 20-dema as a guide for an upside stop.

 

GR102818-BA

 

Twitter (TWTR) posted its third triple-digit earnings gain in a row on Thursday morning when it reported earnings and gapped up strongly in response. The company is also sporting a three-quarter acceleration in sales growth, from 2% to 22% to 24% and 29% in the most recent quarter. The gap-up move took it above its 50-dma at the open, but the stock stalled badly at the 200-dma.

Technically, this can be treated as a bottom-fishing buyable gap-up (BFBGU) using the intraday low of Thursday at 30.76 or the 50-dma at 30.55 as a selling guide. Pullbacks to these levels would also offer lower-risk entry opportunities. The flip-side of this is that the 200-dma presented solid overhead resistance for the stock on both Thursday and Friday with an area of overhead price congestion on the left side of the chart.

 

GR102818-TWTR

 

The market soap opera that I have dubbed As the Tesla Turns (a cheeky reference to the beloved television soap opera, As the World Turns which aired for 54 years between 1956 and 2010), took a few more twists and turns this past week. The first occurred on Tuesday when Andrew Left, the infamous short-seller who runs Citron Research, announced that he had covered his short in Tesla (TSLA) and was now long the stock.

That immediately reminded me of April of this year when he also did the same thing with Roku (ROKU), announcing that he was covering his short and going long the stock. That occurred just after I began discussing the stock as an Ugly Duckling technical turnaround as it was moving back above its 50-dma and posted a series of voodoo days along the moving average. It then went on to more than double from there before topping earlier this month.

So, it was a case of déjà vu all over again, and TSLA responded with a whopping 12.72% rally on Tuesday. The move also qualified as a bottom-fishing pocket pivot (BFPP) coming up through the 50-dma ahead of its earnings report on Wednesday after the close. On Wednesday, TSLA reported a profit of $2.90 a share, defying the shorts who have piled on the stock over the past few weeks as the company has suffered a deluge of negative news and analyst calls.

But, as always, what doesn’t seem to kill TSLA only seems to make it stronger, and the stock jacked higher again on Friday, posting its third pocket pivot in four days, and its second in a row at the 200-dma. I blogged about the stock as a long idea early in the day on Friday, and buyers had two shots at taking shares, the first near the 200-dma early in the day and the second on an intraday pullback later in the day when the Wall Street Journal reported that the Department of Justice was still conducting its criminal investigation of the company’s prior production and delivery guidance.

But, again, what doesn’t kill TSLA only makes it stronger, and the stock quickly found its feet under the $320 level and turned on the 620-intraday chart. It then fought back to reclaim the $330 price level, ending the day at 330.90. If the general market doesn’t blow apart in the coming days, the stock may be set for higher highs, although I would still look for pullbacks to the 200-dma as my lower-risk entry opportunities.

Short interest in TSLA has remained at around 25% of the float, as the shorts have continued to sit on the stock. But the action over the past week has the shorts on the run again. How far will it push them? We shall see, but for now, the stock is slightly extended, with the 200-dma serving as buyable support on pullbacks.

 

GR102818-TSLA

 

Chinese stocks have been and continue to be beaten to a smooth, creamy paste over the past several weeks. Despite some reaction bounces here and there, the entire China space has been mired in a steep, brutal downtrend. I review the entire group daily, and for the most part it looks like a disaster zone. However, over the past few days I have noticed one name that seems to stand out against the rest, at least with respect to its current technical action.

This would be recent IPO Viomi Technology (VIOT) which came public with an offering of 11.4 million shares priced at $9 a share. The stock had a brief pop and then settled in to build what so far looks like a reasonable IPO base, particularly when we consider how badly Chinese names have fared over the past month or so. Thematically, I find the company’s business to be quite compelling.

Basically, on the surface VIOT provides household appliances to the Chinese market, but the story is much deeper, since the company is a leader in the fast-growing IoT@Home Industry. According to one summary of the company, “Viomi has developed a unique IoT (internet of things) atHome platform, consisting of an ecosystem of innovative AI-powered, IoT-enabled smart home products, or IoT products, together with a suite of complementary consumable products and valued-added business.”

China is a huge market, and the nascent segment for home appliances strikes me as somewhat like the U.S. home appliance market back in the mid-1900’s. So, there is huge growth potential, and that has been showing up in the company’s recent earnings and sales growth, as I’ve highlighted on the chart below. In addition, with 71 cents in earnings estimated for 2019, the stock is selling at about 12 times forward estimates.

From a technical perspective, VIOT has posted two pocket pivots at the 10-dma and 20-dema over the past two days. I like the stock in here around the 10-dma, which is currently at 8.44, down to the $8 price level, and the lower I can buy it the better. The one caveat is that it is still quite thin, trading more like 200,000 shares a day on average, although the chart shows average daily volume of 993,600 shares a day. I’m adjusting for the big volume spikes right after it came public, and my average volume number reflects a level more representative of how the stock trades currently.

I remember another stock trading in the mid-$8 range that was also similarly thin, trading about 200,000 shares a day, back in April of this year. That stock was Funko (FNKO), and its compelling business theme combined with decent forward estimates for an $8 stock, led to a 359% romp from there before the stock topped out at 31.12.

So, if we want to get into simplistic “precedent analysis,” which I typically don’t rely on specifically, we might say that FNKO is a precedent for VIOT. My own view is that we can dispense with this shallow sort of thinking and just evaluate this based on its compelling thematic merits, its strong earnings and sales growth, and its constructive technical action as one of the few constructive patterns within the decimated landscape of busted Chinese stocks.

 

GR102818-VIOT

 

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.

Technically, the market remains in a downtrend, with no clear bottom in sight just yet. The question now becomes whether this market has topped for good, or at least topped to the point where a deeper correction is in the offing. We’ve already met or exceeded the so-called qualifying percentages for an intermediate correction.

At this stage, however, with the need to sell becoming obvious, I’m looking for a potentially playable reaction move back up toward the 200-dmas in most of the major indexes. If this occurs, I know what I’m looking for, but admittedly I’m not seeing much of that at this precise moment in time. However, I’m looking for that to potentially change, and any such reaction rally would likely result in a swing-trading opportunity, particularly if we’ve just experienced the first leg down in a deeper correction.

This is not a market for investors, but for traders, and that includes the short side of the market. As I’ve written in my books and elsewhere, the short side of the market requires a more active approach as part of the optimization process. Once can certainly take short positions and attempt to sit through all the bounces, looking for a longer and deeper downtrend to develop, but that necessitated getting short at the beginning of October and just hanging on over the past four weeks as the market has come apart. Doing so now is foolish, in my view.

Thus, the situation remains highly dynamic, and the risk for short-sellers at this stage likely leans more toward over-staying one’s welcome, at least in the short term. However, we must treat each stock based on its own merits, and if a short-sale target stock moves into an area of potential resistance, as was the case this past week with names like FTNT, ETSY, DDD, etc., then taking a shot is certainly warranted while keeping risk to a minimum.

As I wrote last week, I tend to think that in the short-term the fat part of the short-selling game began in early October and at this point is getting a bit long in the tooth. Thus, we begin to look for the reaction rallies that will lead to secondary entries on the short side, or we begin to see more roundabout types of long set-ups, perhaps in the form of BFBGU or BFPPs as we’ve seen in TSLA and TWTR. Objectively, I am seeing some possible long set-ups in this market, which may indicate the potential for at least a reaction low to set in this week.

With more big-stock names set to report earnings this week, the v-squared condition that set in this past week may continue. My approach will center on remaining open-minded to whatever set-ups show up, with the idea of using the volatility to my advantage. As the week progresses, I will keep members updated with any new ideas as they appear in real-time through my blog posts and video reports.

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 no positions, 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.