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The Home Depot, Inc. (HD), Lowe’s Companies, Inc. (LOW): Finding Value in the Housing Sector

Investing in anticipation of a housing recovery has been one of the best trades of the last year, but with things like the home improvement stores The Home Depot, Inc. (NYSE:HD) and Lowe’s Companies, Inc. (NYSE:LOW) hitting new highs is it time to start thinking about reducing your weighting in the sector?

The Home Depot, Inc. (NYSE:HD)

My rationale in asking this question is not to question the validity of the housing recovery but rather to highlight the fact that there may well be other stocks related to it that are have better valuations. Moreover a recovery in the U.S. housing market usually precedes recoveries in other areas of the economy where investors may find investment opportunities.

Home Depot and Lowe’s Companies report

The Home Depot, Inc. (NYSE:HD)’s recent results were certainly better received–initially at least–than Lowe’s Companies, Inc. (NYSE:LOW), but no matter; both stocks rose afterwards. The truth is that the market has woken up to the housing recovery and wants a piece of investing in it. As for the results, Home Depot continued its recent tradition of raising full year guidance.

Here is how Home Depot has tended to hike guidance over the last few years.

As the housing recovery as strengthened so The Home Depot, Inc. (NYSE:HD) has continued to upgrade its full year revenue estimates. It is now three quarters in a row that it has done this, and in this set of results it noted that its pro business had started to grow quicker than its consumer business. This is a positive sign of recovery, as pro sales are seen as more discretionary-based.

Furthermore the recovery it is seeing in its end markets is becoming geographically spread with areas that were at the epicenter of the housing crisis (California, Florida, Arizona, etc) starting to recover as well.

With that said there were some challenges in the quarter with the spring weather starting a lot later than last year. This made comparables for things like garden and outdoor products a lot lower for The Home Depot, Inc. (NYSE:HD). However, it said that April saw a strong snap back in growth following a weak March, and May is similarly strong so far.

It was a similar story with Lowe’s Companies, Inc. (NYSE:LOW). It reported comparables down 10% in March, with April rising 10% and May continuing the positive momentum. In addition, the weather affected its outdoor comparables so that they were down 7%, with indoor rising 3%.

In fact the message from the macro front was pretty much the same. The key operational difference between the two is that Lowe’s has execution risk/return from its reset program. I’ve discussed this initiative in more length in a previous article. Lowe’s Companies, Inc. (NYSE:LOW) is aiming to complete the resets by the end of the year and announced that the percentage increased from 30% to 50% in this quarter. Unfortunately the weather effects helped to ensure that inventory normalization only increased from 20% to 30%, but if what both these companies are saying comes true, then this number should increase in future for Lowe’s.

A note of caution

In summary, both these stocks have upside from a recovering housing market and upside prospects in the current quarter as spring weather finally kicks in. Moreover, Lowe’s Companies, Inc. (NYSE:LOW) should see some upside potential as the benefit of the resets drops into the bottom line. So, why the note of caution?

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