Why I think Home Depot stocks could be a great investment…but not right now

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shares in home depot (NYSE:HD) have fallen sharply this year. Right now, the stock is over 25% lower than it was in early January.

However, the recent price drop only weakens the stock’s generally impressive run. Despite this year’s decline, Home Depot’s stock is still 91% higher than it was five years ago.

I think Home Depot could be a great addition to my portfolio, but I’m not buying them at the moment. Here’s why.

Business Overview

Home Depot is a DIY store similar to B&Q in the UK. The Company sells various home and garden improvement products, equipment rentals and installation services.

Around 91% of Home Depot’s revenue comes from the United States (this will become important later). In addition to do-it-yourselfers, the company has initiatives for professional craftsmen.

Strengthen

Since Home Depot is a retail company, I would normally expect slim margins. But the company has gross margins in excess of 30% and profit margins in excess of 10%.

Compared to its main competitor lowes (8.8%), UK equivalent kingfisher (6.4%) and retail giant Walmart (2.3%), these profit margins are impressive. And the good news doesn’t stop there.

Over the past five years, Home Depot has grown its business impressively. Revenue is up about 60%, and soaring margins have meant net income has more than doubled.

In addition, the company continues to lower its outstanding shares, manages its debt, and is generating solid returns on its investments. Overall, I think there’s a lot to like about Home Depot stock.

headwind

Given all of this, why not buy Home Depot stock now? The answer has more to do with the macroeconomic situation in the US than with the business itself.

Retail in the US is currently going through a difficult phase. Lately, target announced that it had a huge excess inventory that it had to sell at a discount as demand for non-essential items had slacked.

I don’t see Target’s problems as a result of poor management. Instead, I think they are the result of issues that could impact Home Depot.

Target has too much inventory because it had to buy significant inventory to meet supply shortages. Now, however, the decline in U.S. consumer spending — particularly for consumer items — means it has more than it can handle.

I worry that other retailers, including Home Depot (which makes 91% of its sales in the U.S.), may face similar difficulties. Even if they don’t face the same inventory problems, Home Depot’s sales could be slowing due to high inflation-dampening demand.

Right now, Home Depot stock is trading at a price-to-earnings (P/E) ratio of 19, which is slightly higher than that S&P500 Average. At this level, I think the company is priced in for continued growth rather than near-term headwinds.

So my plan is to see how Home Depot’s business performs over the next few months. If earnings fall and the stock falls, I’ll consider investing.

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