It would be easy to presume Home Depot (HD 2.75%) stock just isn't worth owning right now. The economy looks a bit wobbly thanks to high inflation, and cash-strapped consumers aren't prioritizing home improvement in this environment. It also feels like a real estate bubble is on the verge of popping, with high interest rates seemingly undermining interest in still-overpriced homes.
Home Depot shares are arguably worth buying despite these stumbling blocks, however, for reasons that aren't quite as evident. Here are the most important three of these (related) reasons.
1. The reliably cyclical economy is rebounding
Most investors innately know this. But it's easy to forget that economic headwinds are temporary, and always -- eventually -- give way to longer-lived tailwinds.
Granted, the recent headwind is unusual in several ways. It was mostly prompted by the COVID-19 pandemic, and the subsequent economic weakness lingered longer than it normally might. The Federal Reserve and other central banks were also less than ideally equipped to bring the global economy back to full health when they needed to. Interest rates were already near rock-bottom levels at the onset of the contagion, after all, and trillions of new dollars were printed during the pandemic. It was going to be a tricky situation to navigate regardless of when the rebound started to materialize.
NYSE: HD
Key Data Points
A recovery does appear to be taking shape though. The United States' GDP grew 3.3% during the fourth quarter of last year, marking the sixth consecutive quarter of forward progress. The unemployment rate remains near multi-decade lows as well.
There are still sore spots to be sure. But that's a healthy foundation to build on.
2. Home prices are holding up in the meantime
It's curious given the current state of the domestic -- and global -- economy, but home prices are holding up rather well. The Standard & Poor's/Case-Shiller Index of home prices peaked in October of last year, and still remains very near that high. The FHFA's Home Price Index did reach a record high -- again -- in December 2023.
This information comes with an important footnote: While the prices sellers are getting remain sky-high, fewer homes are being sold. January's annualized pace of new-home sales rolled in at 661,000 according to the Census Bureau, which is still well down from 2020's peak pace of just over 1 million. The National Association of Realtors reports annualized sales of existing homes are also hovering near multi-year lows around 4 million per year as well, versus 2020's high of almost 7 million per year. You'd generally expect prices and unit sales to rise and fall together. This time they're not.
Regardless, they're starting to tick higher against the backdrop of an improving economy.
US Existing Home Sales data by YCharts
Underscoring this opportunity are estimates from Realtor.com and the National Association of Realtors suggesting the United States is undersupplied to the tune of 6 million homes. Given this lack of supply relative to demand, don't be surprised to see home values remain firm even if buying isn't frothy. Indeed, once the economy is on a firmer footing home sales and prices could grow even more, as it could take years for the country's homebuilders to catch up with the actual need. For perspective, the nation's homebuilding industry only constructs about 1.3 million houses per year. Also bear in mind that the need for new homes will also be growing while these houses are being built.
This matters to Home Depot far more than you may realize. While consumers see it as the place to begin home improvement projects, about half of the retailer's sales are made to professional contractors. Even a modest improvement on the home-construction front will disproportionally benefit Home Depot's top and bottom lines.
3. Homebuilder confidence is rising again
It wasn't entirely shocking to see that homebuilders became nervous in 2022 and 2023, in the wake of so much economic uncertainty at the same time interest rates were rising. That's why the National Association of Homebuilders/Wells Fargo Housing Market Index -- which measures homebuilder confidence -- plummeted back to early-2020's levels in the middle of 2022.
Homebuilder sentiment is now recovering much faster than you might expect, though. This confidence measure score logged a third straight month of gains in February, with the National Association of Homebuilders noting even a slight ebb in mortgage rates is rekindling strong interest in new-home purchases. In a similar vein, Builder magazine (Builderonline.com) recently described homebuilders as being "cautiously optimistic," conceding there are potential pitfalls to an otherwise-reasonable expectation for a continued recovery.
And this improvement isn't just rooted in wishful thinking. Building permits continue to inch higher from 2022's low point, according to the U.S. Census Bureau. The bounce back from 2008's low started similarly slow before accelerating. That's how most turnarounds start, in fact -- slowly. The time to step into recoveries, though, is before they accelerate.
Connecting the dots
So contractors make up half of Home Depot's business. What about the other half, which is consumer-facing? The home improvement retailer needs demand from both kinds of customers to be robust, right?
Well, take a step back and look at the bigger picture. The same economic tailwind that's starting to blow in favor of home construction again is also starting to blow in consumers' favor. They'll be back at it soon enough, too, as they have following each of the 13 recessions the U.S. economy has suffered since the Great Depression. Capitalism and consumerism find a way of bouncing back even when it seems they'll never be able to do so. This time's not apt to be different. In fact, analysts believe Home Depot's set to benefit from a broad-based recovery beginning this year.
Data source: StockAnalysis.com. Chart by author.
Or maybe the sage of advice of Warren Buffett best describes the lens you should be viewing Home Depot stock through right now: Be fearful when others are greedy, and greedy when others are fearful.
Perhaps most noteworthy about Home Depot here, however, is that despite the problematic backdrop, the stock is performing surprisingly well anyway. Shares are up 34% from October's low, reaching new 52-week highs just this week. That's the market's way of telling you this company's foreseeable future is brighter than it seems it should be with nothing more than a quick glance. That's a hint you may want to take as well.
