Here’s How Home Depot Stock Could Bounce Back To $200 This Year

Recent weakness in HD stock isn't here to stay and neither are housing headwinds

Here's How Home Depot Stock Could Bounce Back To $200 This Year

Source: Mike Mozart via Flickr (Modified)

Shares of Home Depot (NYSE:HD) dropped sharply on Tuesday after the home improvements retailer reported fourth quarter numbers that came in largely shy of expectations, and included a full-year 2019 guide that was unimpressive. The broad implication was that a long-slowing housing market had finally caught up to Home Depot. Investors freaked out. HD stock dropped a few percentage points.

In the big picture, however, slowing growth isn’t a red flag for Home Depot stock. Instead, so long as this slowing growth can stabilize at a still-healthy long-term rate, HD stock actually has room to move higher from here.

That’s exactly what will happen. The headwinds which dropped the housing market in late 2018 — namely, rising rates and stock market turmoil — have eased in 2019, and project to remain relatively muted as the year progresses. The housing market should bounce back. As it does, Home Depot’s growth rates will normalize. As that happens, HD stock will bounce back, too, given its presently discounted valuation.

Thus, in the big picture, recent weakness in HD stock is an opportunity. By the end of the year, fundamentals imply that these shares will be trading at prices close to $200.

Recent Headwinds Are Reversing Course

Looking at fourth quarter numbers, the current trends underlying HD stock aren’t pretty. Comparable sales growth is slowing, and hit a multi-quarter low of 3.2% in Q4. For perspective, comparable sales growth has been largely north of 5% for the past several years. Also, ticket growth is slowing to a multi-quarter low of just above 2%, while traffic growth was just 0.9% in the fourth quarter.

This slowing growth data at Home Depot shouldn’t be surprising when considering the housing market backdrop. Recent housing data has been really bad. Housing starts fell by over 11% in December 2018, and reached their lowest level since September 2016. Meanwhile, home prices in December rose at their slowest rate since August 2015.

Overall, housing market growth rates are slowing to multi-year lows, as are Home Depot’s growth rates. But, this is all backward looking. If you look forward, it becomes apparent that recent weakness isn’t here to stay.

The housing market dropped big in late 2018 for two reasons. One, inflation was creeping up, the Fed was hiking rates aggressively, and mortgage rates were on a rapid run higher. Two, Wall Street became obsessed with a coming recession, and that created enormous stock market volatility, the likes of which spilled over into Main Street and sapped consumer confidence.

Both of those headwinds are now reversing course. Inflation is under control. The Fed isn’t hiking anymore. In fact, they are now considering even ending their balance sheet run-off. Consequently, mortgage rates have been on a steady downtrend for the past several months. Also, the stock market has bounced back with relatively muted volatility. As it has, the consumer has regained confidence.

Thus, the housing market is set to bounce back over the next several months with rates on the move lower and consumer confidence on the move higher. Home Depot management knows this. That’s why they are guiding for 5% comparable sales growth in fiscal 2019, better than the fourth quarter’s 3.2% comp. If Home Depot can hit that 5% comp figure — which seems entirely doable given secular trends — then HD stock will ultimately rally toward $200 in 2019.

Fundamentals Imply Upside to $200

Home Depot is coming off several consecutive years of red-hot growth. Now, that growth is naturally cooling. But, it isn’t dying, and a reversal of housing market headwinds in 2019 will stabilize growth in a more long-term sustainable range.

That range will include low to mid-single comparable sales growth, gradual margin expansion, and a healthy rate of buybacks. Putting all that together, Home Depot should easily be able to hit about $135 billion in sales by fiscal 2025, with EPS of roughly $14.50.

Over the past five years, HD stock has normally traded around 20 times forward earnings. Based on that historically average 20x forward multiple, a reasonable 2024 price target for HD stock is $290. Discounted back by 8% per year (2 points below my normal 10% discount rate to account for the yield), that equates to a fiscal 2019 price target of just under $200.

Bottom Line on HD Stock

Investors are concerned that a weak housing market has finally caught up to Home Depot stock. It has. But, today’s weak housing market is set to improve over the next few months as rates head lower and consumer confidence heads higher. So, recent weakness at Home Depot isn’t here to stay. Instead, it will be replaced by improving growth rates later in the year, the likes of which will power a rally in HD stock towards $200 by the end of 2019.

As of this writing, Luke Lango was long HD. 


Article printed from InvestorPlace Media, https://investorplace.com/2019/03/heres-how-home-depot-stock-could-bounce-back-to-200-this-year/.

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