Market Comment

Sell In May And Go Away?

May 24, 2011

“To anticipate the market is to gamble; to be patient and react only when the market gives the signal is to speculate.”
                    — Jesse Livermore

Shares remain at the mercy of the de-risk trade, manifested by upward revaluation in the dollar, defensive stocks, and Treasurys, and amid cheaper quotations in emerging markets, commodities, and the euro.

Technically, the intermediate trend has turned down, with lower highs and lower lows printed on both SPX and Naz, not to mention price undercutting the 50-day line. Add to this a bias toward institutional selling, not only in the averages but also in some of the liquid glamours, and it is a time to tread lightly. If at all.

The big picture is that of global participants discounting an economic slowdown produced by rising inflation and interest rates in key emerging markets such as China and Brazil, amid growing unease over the European debt crisis.

We were skeptical that the original Grecian Formula would work as advertised. Deeply-rooted problems embedded in political and financial systems – let alone embedded in whole societies – cannot be expected to vanish in weeks or months. Translation: Political, financial, and social systems completely dependent upon debt take time to rid themselves of this pernicious disease. And time takes time. Not just a few months.

As usual, the market told the story for those who chose to listen: Greece and Ireland would likely not make it…

…while Spain and Italy would.        



In our May 11 report written for Gilmo Report subscribers only, we said “The view here is that [Baidu] is perhaps the most important from a liquid glamour standpoint, i.e. its behavior offers a key window into institutional sponsorship of large-capitalization growth titles, a window that is more objective than any opinion or prediction. Its ability to successfully test its 50-day is seen as a key tell.”

As the below chart indicates, since the above was written, BIDU has put in three distribution days, closing below its 50-day for eight-straight sessions. This is not a company like Apple (AAPL) that is seeing a sharp deceleration in earnings growth. This is an outfit from which the Street expects 68%/51% growth in ’11/’12, with the estimates revised upward most recently. In our opinion, the highest quality liquid glamour in the market.


Along these lines, another liquid glamour, (PCLN), is also experiencing what it feels like for institutions to make for the exits. Similar to Baidu, estimates for ’11/’12 are generous (51%/28%) and were revised upward most recently.

Among the names, (CRM) today cleared a five-month base on volume more than double average. Friday (not shown on the weekly chart below) showed a gap opening and 8% rise on the day, with volume at 300% more than average. Earnings are expected to increase from 4% growth in the Jan ’12 year to 46% in the ’13 year. Mutual funds have steadily increased their holdings in the last two quarters. The stock could potentially be purchased at current levels using a 6% stop.

Qlik Technologies (QLIK) we have mentioned in our last two reports. In the face of softness in the averages, the stock is announcing that it wants to go higher. The logical time to have entered would have been today, above Thursday (19) and Friday’s (20) highs. QLIK could still be entered here using a junior position and a stop just below $30. The dollar amount at risk, the, would equate to less than 4% of a normally-sized position. We do not have much of a problem with the triangular pattern. It is not ideal, yet the relative strength of the title vs. other glamours, the strong accumulation seen since mid-March, and in light of the soggy averages, overcomes the less-than-perfect pattern.

Netflix (NFLX) is a rare liquid glamour that is threatening a breakout. However, in light of the BIDU and PCLN situations, we question what kind of sponsorship would accompany the breakout. For example, we would have expected to see volume increase today as an obvious cheat point was crossed.

Chipotle Mexican Grill (CMG) is another leader showing good tone as it forms a five-week base. In light of its recent past, we would need to see solid volume kick in before becoming too interested in this. Estimates are 21%/24% and rising.

We generally do not suggest entering a gold long
unless it is being ignored by the market and has pulled back accordingly. At present, however, given the strength shown relative to silver, oil, and copper, and after Friday’s (20) high-conviction bounce, the SPDR Gold Trust (GLD) could be entered here, using a stop beneath the 5/5 low of 142.55.

Lululemon Athletica (LULU) is forming one of the most constructive bases in the current market. The Street sees estimates of 29%/25% for ’11/’12. A logical entry point for a starter position would be above the 5/10 high of 101.14, as circled in the below chart.

Also of note: IPG Photonics (IPGP), working on a three-week shelf, in a top decile group, and under extreme accumulation, with estimates of 96%/25%.

The above names constitute the handful of actors that could potentially be buyable under the right conditions. However, subsurface deterioration is evident in more places than otherwise, e.g. Acme Packet (APKT), Polycom (PLCM), ARM Holdings (ARMH), Atmel (ATML), Real D (RLD), Shutterfly (SFLY), and Sina (SINA).

VMware (VMW), while interesting, does not captivate us. We are not normally attracted to stocks that have shown scant relative strength over the past eight months.

Amid all of the LinkedIn (LNKD) hoopla, we would note that by avoiding all of the hype and “is-it-rich-or-is-it-cheap” debates, recent new issues can offer a very profitable way to enter a stock with the necessary volatility to equate to real gain potential. By sitting back and first allowing an IPO to form its first peak, pull back, and complete its first base can, in the right situation, allow you to establish a position in a name that can be a game-changer for your account.

As one example, Servicesource International (SREV) is a recent new issue that built its first consolidation pattern, broke out on obvious volume, and moved up more than 50% in about two weeks. This particular title did not interest us due to it being priced at $13.18 at its pivot, as shown below, and we normally do not buy teenagers in the $13-$15 range.

Google’s (GOOG) IPO in ’04 is another example. Whereas ServiceSource on the previous page was a product that relatively few people use, GOOG was something that about 75% of everyone used. GOOG was the most ballyhooed IPO since perhaps Netscape Communications came out in the mid-‘Nineties, heralding the Internet Age. According to our account statement, we entered GOOG on five different days, as plotted by the arrowed days in the below chart. The stock advanced for its first three days of being public, then began to pull back. On Aug 30 and 31, you can see that volume dried up, as Aug 31 saw the price range tighten to its narrowest yet. On Sept 1 and 2, volume picked up, however range on both days was similar to that of the prior week, thus it was not a complete change of demeanor. Then on the next four days, highlighted by the yellow area, volume dried up, and this time range did narrow. Attention had finally drifted away from the stock. Note the higher lows of each of the yellow-highlighted sessions, a sign of investor impatience. The key day was Sept 10, circled in red. Both volume and range expand, and it is the latter that we keyed off of. Clearly, the tenor of the situation had changed. Using the high of Sept 8, two days’ previous, as our pivot, we put on a junior position, and then added on four subsequent sessions.

By sidestepping the hype, and patiently allowing the forces of supply and demand to shift the probability of success in one’s favor, the speculator can capitalize on what is normally elevated volatility (read: elevated opportunity) seen in the young life of a new issue. Whenever possible, we prefer to enter a recent new issue before it clears its first base/consolidation, usually with a junior position. This has the advantage of mitigating some of the shakeout risk that can occur subsequent to the actual breakout, if indeed the base is cup-shaped and a pullback materializes. Our add-on positions are then put on accordingly.

As for new issue type, we prefer a name-brand large-capitalization issue due to the likelihood of institutional growth participants beginning their accumulation campaigns. This has the benefit of providing support to a stock on pullbacks. Of import: General market climate must be conducive to the new issue market. No matter how promising the fundamentals and growth estimates, if the speculative sentiment is not there, the desired result may be lacking.

The past decade has not produced as many dynamic IPOs as the two decades before it. Nevertheless, there will be other opportunities, particularly in the still-evolving social media space, for companies that are known quantities to most participants, e.g. Linkedin, to go public. On tap: Pandora Media, Zynga, HomeAway, Cloudary.

In summation, the averages dictate caution due to their printing lower highs and lower lows, and their distribution days. Important liquid glamours such as Baidu are rolling over. The above two sentences tell the whole story.

To complete the picture, for the aggressive speculator, we believe that CRM and QLIK could be purchased at current levels, while NFLX, CMG, LULU, and IPG set up. This is slim pickings. We believe the euro zone situation worsens. All of the above, combined with seasonalities, could easily toss the averages into an 8%-12% correction. As always, we will stay flexible and let the market tell its own story.

Kevin Marder

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.