The market tends to underprice securities that are in a cyclical downturn and overprice securities that are in the midst of a cyclical upturn. Determining whether or not a security is severely underpriced or severely overpriced is not a difficult task, but making a determination about the investment merits of a security that is not priced at one of those extremes can be a difficult task.
Unfortunately, it is at the point when a security is on the verge of becoming severely overpriced that many individual investors start buying it. This seems to be the case with housing-related stocks, especially The Home Depot, Inc. (NYSE:HD), Lowe’s Companies, Inc. (NYSE:LOW), and Lumber Liquidators Holdings Inc (NYSE:LL). Investors who buy these stocks today are acting as a lifeboat for Wall Street money managers that recognize the stocks’ severe overpricing.
Recovery in housing
Although the broader economy has remained sluggish, a recovery in the U.S. housing market is well underway. This has boosted sales at The Home Depot, Inc. (NYSE:HD), Lowe’s Compnies, Inc. (NYSE:LOW), and Lumber Liquidators Holdings Inc (NYSE:LL)and will continue to do so as long as the recovery continues at a robust pace.
The Home Depot, Inc. (NYSE:HD)’s stock price has increased significantly over the last year, but not without reason. After over-expanding during the housing boom, the company is now a leaner and more focused company than it was heading into the housing bust.
Aside from operational missteps associated with supply chain management and investing outside of its core competencies, management has been extremely shareholder friendly; it uses the bulk of free cash flow to repurchase shares and pay a dividend. The share repurchase program has led to a significant reduction in shares outstanding over the last decade.
Meanwhile, Lowe’s Companies, Inc. (NYSE:LOW) continues to excel as a company known for providing a good customer experience, including appealing stores and outstanding customer service. The company is pursuing an aggressive strategy to roll out its own brands in an effort to boost margins. Along with its efficient supply chain and industry-leading information technology infrastructure, the strategy should help Lowe’s Companies, Inc. (NYSE:LOW) expand its margins as the housing recovery plays out.
However, as the domestic market becomes saturated with big box construction products stores, The Home Depot, Inc. (NYSE:HD) and Lowe’s Companies, Inc. (NYSE:LOW) will likely start competing more fiercely with each other. This can only mean lower profits going forward.