The housing market is primed for a recovery.
Home Depot (HD -0.94%) is one of the best-performing stocks of all time, and today, it still retains impressive competitive advantages.
It’s the largest company in the massive home improvement retail industry, which has a total addressable market of close to $1 trillion. It essentially operates a duopoly with rival Lowe’s, allowing both companies to earn wide operating margins and returns on invested capital.
Home Depot has generally struggled since the pandemic’s height as the housing market has been sluggish, and the company’s business is closely tied to home sales and home renovation projects. However, that sets the stock up for a recovery in the coming years as the housing market should bounce back. Let’s take a look at three reasons to buy the stock right now.
Image source: Home Depot.
1. The housing recovery is coming
After the pandemic-fueled housing boom faded, interest rates spiked and home sales plunged, leading to a slowdown for Home Depot’s business.
However, the Federal Reserve kicked off its rate-cutting cycle with a 50-basis-point reduction last month. While mortgage rates haven’t responded yet, they should come down as the Fed expects to cut rates by another 1.5 percentage points by the end of next year.
Existing home sales are also about 30% below where they were before the pandemic started, meaning there’s a lot of room for recovery in the housing market. As existing home sales rebound, Home Depot is likely to see accelerating growth.
Additionally, there’s a housing shortage in the U.S. estimated in the millions, and both presidential candidates have plans to fill that gap. As the supply and demand balance in the domestic housing market normalizes, Home Depot also figures to be a winner.
2. Home equity levels are at record highs
While home sales have been slow, prices have risen. More Americans are staying in their homes for longer, which has meant record levels of home equity. Americans now have more than $32 trillion in home equity, and it will get easier for them to tap into it as lending rates on home-equity loans and lines of credit come down. The average borrower now has around $214,000 in equity, and that money is likely to drive spending on home improvement projects.
Similarly, with the stock market at all-time highs, that’s another source of money Americans can put toward such projects.
Together, these developments should complement the housing recovery and drive a potential surge in Home Depot stock.
3. Its competitive advantage is strong
Home Depot’s sales have fallen recently with comparable sales down 3.3% in its fiscal second quarter (ended July 28). The company is calling for a comparable sales decline of 3% to 4% for the full year.
Despite the top-line weakness, Home Depot’s margins remain strong. The company is on track to post an operating margin of 13.5% to 13.6% in fiscal 2024. While that’s down from recent highs, Home Depot is well-positioned to expand its profitability in a recovery.
Those numbers should also reassure investors that the company can handle any challenges or headwinds that come up in the industry.
Why Home Depot is a buy
Home Depot’s valuation might not seem attractive right now at a price-to-earnings ratio of 27, but there’s a lot of leverage in the business once it returns to growth. Additionally, its acquisition of SRS Distribution should begin to yield results and help the company better tap into the pro market.
Home Depot is a proven winner with a wide economic moat, and the company is set to capitalize on the housing recovery and efforts to close the housing shortage across the U.S.
Jeremy Bowman has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Home Depot. The Motley Fool recommends Lowe’s Companies. The Motley Fool has a disclosure policy.
