The Case Against Home Depot, Even After The Stock's Big Pullback

 | May 24, 2022 08:32AM ET

This article was written exclusively for Investing.com

During the final three years of the 1990s, Home Depot (NYSE:HD) shares gained over 500%. A strong economy and a booming stock market led consumers to spend heavily on their homes.

Between fiscal 1996 (Home Depot fiscal years end January of the following calendar year) and fiscal 1999, revenue nearly doubled. Earnings per share rose 133%.

Home Depot Daily

Between the end of 2018 and the end of 2021, shares of the Atlanta, Georgia-based retailer rallied 142%. Growth in the now far more mature business obviously was much slower than it was two decades earlier but, in context, still impressive.

Again backed by a booming stock market—though, owing to the novel coronavirus pandemic, admittedly a more inconsistent economy—between FY2018 and FY2021 Home Depot increased sales by 40%. EPS gained 60%, and the figure in FY2021 was more than double that from four years earlier.

Obviously, Home Depot now is a very different company from what it was then. But even with sales roughly four times as high as they were in FY1999, HD stock remains a cyclical play. That's been a problem before—and even after a big pullback, it could be a problem again.

The History Lesson

As noted, the home improvement retailer closed the 1990s on a high note. But the housing market has peaked. Inflation adds another threat.

Investors, so far this year, have reacted quickly to those rising risks. But the current valuation doesn't suggest they've reacted quickly enough. While HD stock at 30% below its peak might seem like a steal, investors could have made and did make the same argument in 2000 and in 2007. In both cases, they were far too early. History may well repeat.

The Bull Case for Home Depot Stock

Admittedly, it's possible this commentary is simply too bearish. It's worth repeating: Home Depot is a wonderful business. The housing cycle will have its effects here and there, but nonetheless, over time, the stock rallies. Even investors who bought at the end of 1999 eventually did quite well: including dividends, HD stock has returned over 9% annually since then.

The housing market may hold up. Demographic shifts to out of urban areas into lower-priced markets may create more homeowner cash to invest in renovations—and more square footage in which to invest that cash. Recession risks could be overblown.

Over the long haul, yes, HD stock still looks like it could be a winner. But that doesn't mean there's any need to rush, or that the 30% decline makes the stock 'cheap'. There remain an awful lot of risks here, and it does not appear that all of those risks are priced in.

Disclaimer: As of this writing, Vince Martin has no positions in any securities mentioned.

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