November 11, 2018

Friday’s 1.65% decline in the Nasdaq Composite and 0.92% fall in the S&P 500 are considered normal for a market that had gotten ahead of itself since the 10/29 low.

Of note was the S&P’s ability on Friday to find support at its 20-day exponential moving average and finish the session just above the midpoint of its intraday range.

The action of the leading stocks can always be considered the place where the rubber meets the road. On Friday, I tweeted “Today, Some, but not much, distribution in emerging leaders, perhaps 15% of them. The Naz uptrend remains intact as long as the 7255 level is not violated.”

If we begin to see the Watch List names show more serious distribution, including outright breakout failures, the chance of the 10/29 low being a durable bottom will diminish.

As Bill O’Neil has said, “We operate on fact and historical precedent, not personal opinion or prediction.” As a result, our view became positive on 11/7 when we saw four things: 1) a move above the 20 ema by the S&P and Naz, 2) a higher high printed by both averages, 3) the O’Neil follow-through day, and 4) stand-up action by some leading growth stocks.

Of the three, the higher high made by the averages was the most telling, followed by the action of the leaders.

It is important to understand that there are two negatives the market must contend with which it hasn’t had to face since the last secular bull ended in October ’07. To wit, a rising interest rate environment – both in the overnight rate controlled by the Fed and the 10-year Treasury note – and a peak in breadth, or the number of issues advancing with the averages.

Historical precedent shows us that both rising rates and declining breadth are leading indicators of a primary bull market top in the averages. While we should be respectful of this enough to temper our expectations of what is possible, at the end of the day we focus on the intermediate-term.

And as long as the intermediate-term trend is believed to be up and fundamentally sound stocks build and break out of bases, we should remain opportunistic on the long side.

I have put on one long position, STAA, since moving to 100% cash on Oct. 2. My long exposure is somewhat tempered by the rising rate backdrop, the declining breadth, and the near-complete cleanout of the growth sector in the recent correction. Nevertheless, I expect to add to the STAA position and take other positions without feeling the need to become heavily long at this juncture. As Bill has said, we are like a tree that bends in the breeze.

I have spoken about the vogue for defensive stocks ever since some of these sectors began to curry favor with investors, such as the healthcares, consumer staples, and utilities.

This is borne out by stocks with steady-eddy earnings growth now showing relative strength ranks of 88 to 93, an unusual occurrence for the majority of a bull market. These include CVS Health (CVS), Clorox (CLX), Ecolab (ECL), Johnson & Johnson (JNJ), McCormick (MKC), and Procter & Gamble (PG). Due to the expectation of an economic slowdown in ’19, investors have moved into these because of their recession-resistant nature.

The point here is that there is a distinct risk-off mindset permeating the minds of market participants. And this de-risking may make it challenging for most growth titles to look anything like the Watch List names without some extended time - months, not weeks - to repair their broken chart patterns.

Among the names, Dexcom (DXCM) was discussed in the Nov. 7 report. It makes medical systems for ambulatory use by diabetes patients. Earnings are expected to go from an estimated 28-cent-a-share loss this year to a 16-cent profit in ’19. Revenue grew an impressive 42% and 44% in the last two quarters. A 99 RS stock under solid accumulation.

The number of mutual funds that owned DXCM in the recent quarter was 719. This is within the 400-1100 sweet spot that some successful growth stocks show during their mark-up phase.

In the Nov. 7 report, it was noted that “The stock is building an attractive eight-week base and can be taken above the base high of 148.56.” Last Thursday, price eclipsed this level and got as far as 152.14 before easing slightly. A plus was Friday’s inside day and trivial gain during a session in which the Naz dropped 1.65% and the S&P fell 0.92%.

The stock can be taken above the Thursday high of 152.14. This is one of the most encouraging charts in the growth sector.

Everbridge (EVBG) is an enterprise software issue that was a big leader up until September when it began basing. Losses are expected to continue this year and next. Despite this, revenue growth impresses, and was 43% for each of the most recent quarters. A 97 RS stock.

Price is most of the way up its 27% deep, eight-week cup. This alone distinguishes Everbridge from the vast majority of its growth-stock brethren. Last Wednesday, price was +9.7% on +87% volume, before dipping and finding support at its 50-day moving average Friday. The 11/8 high of 59.83 could be used as a cheater entrance point, preferably after price backs and fills for two or more days. (A cheater entrance is one taken prior to the formal breakout of a base.)

A plus for the stock is the RS line. It bottomed a month ago and has been rising ever since, despite the S&P falling for most of this time. In fact, for the past month, EVBG is +22.2% vs. the S&P’s +1.9%.

Haemonetics (HAE) is a medical systems stock with earnings growth expected to be 25%/32% in the March ‘19/’20 fiscal year. A 97 RS stock.

Since the 10/29 low in the averages, HAE is +10.9% vs. the +5.3% of the S&P. As mentioned in the 11/7 report, “It can be taken above the pattern high of 117.56, though preferably it will form a handle or pullback prior to its breakout.” Since then, price fell 3.0% on +44% volume during Friday’s market selloff, finding support at its 50-day moving average.

HAE can still be taken above the 117.56 pattern high. An alternate entry of the cheater sort would be above Thursday’s high of 116.69.

Healthequity (HQY) is forecast to show 62%/25% in the January ‘19/’20 fiscal years. The stock, discussed in the Nov. 7 report as “buyable above 100.87, preferably on solid volume,” lost 1.8% on -33% volume during Friday’s market decline. It can be taken above the 11/8 high of 101.58 once volatility (the high-low range of a bar) settles down from its elevated level of Friday.

It is logical that Ollie’s Bargain Outlet (OLLI) would be an outperformer during an otherwise-unimpressive period for growth stocks. The discount retailer of brand-name items has shown a relatively steady pace of earnings growth – 12% annual standard deviation – over the past several years. Earnings are expected to grow 19% in the January ’20 fiscal year.

A 97 RS stock in a 99 RS industry group.

Price forms a six-week flat base with a reasonable depth of 13%, especially in light of the sizable 47% gain over the preceding eight weeks. OLLI can be taken above the 97.61 base high on solid volume, i.e. 40%-50% or more above its 50-day moving average of volume, which is 690k. For more-aggressive players, the 96.30 high of 10/31 could be used as a cheater entry.

Omnicell (OMCL) was discussed in the 11/7 report: “The stock can be taken above Wednesday’s high of 73.23.” The next day, price moved to as high as 74.16 before retreating 2.1% on -30% volume Friday. We would be looking for a couple of days of sideways movement preferably before taking OMCL above Thursday’s high of 74.16.

Staar Surgical (STAA) pulled back along with most everything else in Friday’s decline in the averages. Then, it found support at its 50-day moving average and went out just below the midpoint of Friday’s range. This shows supportive action. I will be looking to add to my position in STAA on a break of Thursday’s high of 51.30, preferably after a couple of days or more of sideways action.

For fresh money buys, waiting for at least a couple of days of handle formation is preferred.

Workiva (WK) has recorded losses for the past several years, and is slated to do the same this year and next, though at a slower pace. A 97 RS stock under solid accumulation.

The stock forms an eight-week consolidation. Friday’s 3.4% decline represented the first day in a possible handle. Another few days of handle formation should take place before entry above is considered, especially due to the liquidity of this issue. While the market cap is $1.7B, the ADDV (average daily dollar volume) is just $11MM (million), less than the preferred $25MM-$30MM minimum.

In sum, the trend in the S&P and Nasdaq remains up. Due to the decimation of the growth sector, the menu of pattern setups among growth titles is modest. This number is expected to expand if the averages continue their advance out of the September-October correction.

It will be important to watch breadth, volume, and leadership to provide clues as to the veracity of this move.

Kevin Marder

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Unless otherwise noted, charts created using TradeStation. ©TradeStation Technologies, 2001-2018. All rights reserved.

The views contained herein represent those of Marder Investment Advisors Corp. At the time of this writing, of the stocks mentioned in this report, Marder Investment Advisors Corp., Kevin Marder, or an affiliate thereof held a position in STAA, though positions are subject to change at any time and without notice. Estimate data provided by Thomson Reuters.