There have been concerns over the pace of the housing recovery--and a related field, home improvement--following the recent rise in mortgage rates.
Today's July Housing Starts numbered showed a sequential improvement in starts of 5.9 percent, to 896,000, roughly in line with consensus. The big gain was in the very uneven multi-family segment, up 26 percent, while single-family starts declined slightly to 2.2 percent, only the second time single-family starts have been down in 16 months.
Personally, I find the numbers disappointing. Multi-family is a noisy series; I pay much more attention to single-family. Down 2.2 percent? Huh? And even including multi-family the numbers are disappointing. I had been expecting we would see total starts near the psychologically important one million level by now (it hit that level for only one month earlier in the year).
But Bulls keep referring to the nearly eight-year high in homebuilding sentiment as signs the fundamentals remain intact.
However, there is a huge ancillary play in real estate that is showing signs of serious aging: home improvement. The key is to watch the two leaders: Home Depot (HD), which reports earnings Tuesday, and Lowe's (LOW), which reports Wednesday.
Both have had enormous runs since the housing picture began to show improvement in early 2012: Home Depot up 80 percent, Lowe's up 75 percent since 2012.
The bet--among Bulls--is that home prices are continuing to rise--though at a somewhat slower rate--and that will continue to drive home improvement demand.
Analysts are expecting fairly large sales gain in big ticket items like appliances and cabinets.
But there are several major issues:
First, same-store sales expectations are high. Lowe's last issued guidance in May, saying it expected same-store sales up 3.5 percent for the quarter. Home Depot also last issued guidance in May, expecting same-store sales to be up four percent.
Many analysts, however, have same-store sales expectations much higher than those provided by the company. The consensus for Lowe's seems to be north of five percent, for example. Somebody is very wrong.
Second, valuations seem stretched: both are near 21 times forward earnings, near multi-year highs.
Third, sentiment is still very bullish. I looked at Lowe's, and here's what I see: nine analysts have Buy recommendations, 11 have Hold. I could not find a single sell-side analyst who had a Sell recommendation on the stock.
Bottom line: there are a lot of nervous traders "hiding" in the home improvement story, but there is very little room for error in the earnings report; the risk is on the downside. Any miss, or anything that is perceived as poor guidance, will almost certainly drop the stocks significantly.