In 2018, we haven’t had too many chances to trade stocks based on their fundamentals. The earnings season, however, is one of the periods where we can actually concentrate on company profits and loss statements.
Today, Home Depot (NYSE:HD) delivered a strong earnings report and investors reacted positively to the headline in after-hours trading. Another trend in investing these days is that Wall Street punishes company stocks even if they beat expectations but disappoint on the forward guidance. In this case, Home Depot management raised forward guidance… and HD stock is still down slightly as of this writing despite the initial pop.
Fundamentally, Home Depot stock is reasonable. It trades at a 25 price-to-earnings ratio. While this is not screaming cheap, it’s not bloated either. This is a proven management team that rarely gives Wall Street a reason to sell its company stock.
HD stock also has more draw for investors than its main rival Lowe’s (NYSE:LOW). Personally I shop at both but would shop exclusively at Home Depot if it were closer to my house. So it’s safe to say that the HD team is doing a better job at implementing on their plans than Lowe’s.
Even though the fed is in a rate hike cycle, the retail sector is still healthy. The SPDR S&P Retail ETF (NYSE:XRT) is up 25% in the past 12 months and this trend should continue for months to come. The current environment — which is conducive for healthy spending at Home Depot stores — is likely to persist at least through 2018.
And therein lies the opportunity. The strength in HD stock means that proven support levels will also hold through 2018. With this, I can generate HD profits without any out-of-pocket expense.
Technically, there are also opportunities above. There was a bearish pattern forming into a Home Depot stock coming into the earnings report. But with this report, I believe it has been averted. And even then the damage from it would not have been a disaster in the long run.
Even though there is upside opportunity from a price perspective, I am more confident in the downside support holding than in the upside reward.
This is especially true because the stock markets in general are near all-time highs and we have so much that can still go wrong. We have an ongoing global tariff war and global currency issues stemming from the Turkish lira event.
Even though I am optimistic that these things will work themselves out they are nevertheless risks for which I have to be ready.
Home Depot is a quality company that is firing on all cylinders and today’s trade will profit from its stock without even needing a rally. In fact I can still retain my maximum gains even if HD stock falls 15% from here.
HD Stock Trading Ideas
The Trade: Sell HD Jan 2019 $165 naked put and collect $1.60 to open. Here I have a 85% theoretical chance that I would retain maximum gains. But I would accrue losses below $163.40.
Those who want to mitigate the risk that comes with selling naked puts can sell spreads instead.
The Alternate Trade: Sell HD Jan 2019 $170/$165 credit put spread. The spread has the same odds but would deliver 15% yield on risk. Neither trade require a rally to profit.
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Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him as @racernic on twitter and stocktwits.
