Jim Cramer Says Home Depot's Valuation Isn't a Reason to Stay Away
The housing market is still a difficult backdrop for home improvement retailers. Thirty-year fixed mortgage rates have been swinging between 6% and 6.8%, and because more than 80% of mortgage holders have rates below 5%, many homeowners have stayed put, according to The Wall Street Journal. That has kept supply tight and median prices above $400,000, even as demand remains persistent. For Home Depot and Lowe's, it has been a painful stretch: shares of both companies are down more than 14% over the past year.
Jim Cramer, however, does not see Home Depot's valuation as a reason to step aside. He offered a mixed take on the two companies in commentary made a day before Home Depot's fiscal second-quarter report. When the report landed, Home Depot's shares closed 2.9% lower despite a headline beat.
Home Depot posted $47.8 billion in revenue, up 5.7% from a year earlier, and diluted earnings per share of $4.92, ahead of the $4.83 analysts were looking for. Home Depot's CFO also said the company was gaining market share in a tough market. But the underlying numbers suggested more caution: customer transactions fell 1% in the quarter, and the average ticket dropped to $90 from $92.50. Consumers, it seems, are spending only when they have to. Operating income growth of 4.3% lagged revenue growth, and Morningstar has noted that the stock is trading near the high end of its historical forward P/E range. That puts more pressure on Home Depot to deliver in an unforgiving environment.
Professional customers, according to estimates, account for about half of Home Depot's revenue. That gives the company a more stable revenue base than a purely DIY retail model, but it does not make Home Depot immune to the housing slowdown.
Lowe's, by contrast, got a warmer reception after it reported earnings in the morning; shares closed 2% higher. Revenue growth of 8.3% outpaced Home Depot's, and online sales jumped by a much stronger 15.7%. Estimates also suggest Lowe's Pro segment has delivered consistent double-digit growth. Still, cost pressures were visible. Gross margins fell 77 basis points, and operating margins fell 81 basis points. With about 70% of Lowe's sales coming from everyday consumers, high inflation remains a risk to the top line, and the mortgage lockup effect is another headwind. Lowe's global comparable sales declined 5.1%.
The investment backdrop is not identical for the two stocks. Home Depot trades at 23.20 times forward earnings, while Lowe's trades at 17.39 times. Among hedge funds tracked by Insider Monkey, 100 funds held a stake in Home Depot and 66 held a stake in Lowe's. Short interest in Lowe's was 2.24% of float, versus 1.37% for Home Depot.
The bigger question is how long the housing slump lasts. If mortgage rates stay elevated and homeowners keep holding onto low-rate mortgages, housing turnover will likely stay sluggish. Home Depot has a more professional-heavy customer mix to cushion the blow, while Lowe's has more earnings leverage if the market turns. In Cramer's view, Home Depot's valuation has not yet reached the point where investors need to avoid it.
While Insider Monkey acknowledges the risks and potential in Home Depot as an investment, the firm's conviction is in some AI stocks it believes have more upside and less downside. For investors looking beyond home improvement, the firm has published a report on the cheapest AI stock.
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