Home Depot (NYSE:HD) reported earnings this week and investors reacted poorly. Home Depot stock fell over 5% on the news. But this earnings drop opens opportunities for those looking to invest in HD because one event doesn’t change the overall thesis. It is up twice as much as the S&P 500 this year, so it’s already a star. And it can keep on shinning.
It all comes down to expectations during the earnings season. This is not to say that HD management completely botched their execution last quarter. In fact, HD stock has out-performed LOW by more than 25% this year. So this negative reaction to the stock is necessary to realign expectations.
Fundamentally, Home Depot stock is not cheap as it sells at a price-to-earnings ratio of 24. This is 60% cheaper than Lowe’s. While this valuation doesn’t seem bloated, it doesn’t scream cheap either in absolute terms. Today its only competitor, LOW, reported earnings and Wall Street loved the results.
Clearly, they expected more of HD and they didn’t get it.
Luckily Home Depot stock, while not a screaming buy yet, is falling into support. This makes now an opportune time for someone to start catching the falling knife in this bullish equity market. The area around $220 per share has been pivotal for HD stock since July. In fact, it was the target of the breakout that occurred as far back as April.
So on the way down, it is not likely that the bears will be able to slice through it like butter. Both sides will fight it out hard as HD falls into pivots, so it will be a slog. This creates congestion that translates into support on the charts. This is why they say that prior support prior resistance becomes forward support and vice versa.
There Won’t Be a Perfect Signal for Home Depot Stock
In this case, even if HD continues falling a bit more this week, it does so into a level that was resistance until the August earnings report. While there are no absolute clear signals to trade a stock one way or another, to start a bearish position in Home Depot here is wrong. Those who want to short it should wait for a breakdown of the support zone below.
Conversely and in anticipation of the support holding, those looking for an entry point into the stock for the long-term, or simply to trade a short-term swing can start to accumulate a bullish position on this dip.
The options markets also offer a viable alternative for catching a falling knife. Those who want to own Home Depot shares now can instead sell puts into the fears that are materializing in the market this week. This way they won’t even need a rally to profit. As long as HD stays above their level, then they retain maximum gains. Otherwise, they would be long the stock that they want, but at a much lower price from here.
Regardless of the method, when good stocks fall, they open the door for opportunities. For every seller there is a buyer, so it all comes down to time frame and thesis. In this case, we still have full employment and a robust real estate market. In addition, Home Depot has only one true competitor: Lowe’s. So when it’s a duopoly, it makes it hard for a stock to continue falling without finding support unless there is a market-wide correction.
Therein lies some added risk because the indices are indeed at all-time highs.
So if we do have a small hiccup in the general markets, then this will add to the downside pressure for Home Depot stock. This is a reminder that there should be no expectations of catching the perfect absolute bottom in any stock.