Home Depot confirms trouble is on the horizon

by Zain Jaffer

Home Depot (HD) announced in mid May 2023 that its sales fell by 4.5% and income fell by 6.4%. They also mentioned falling lumber prices and weather related factors for the lower earnings. Home Depot also said sales would be lower by around 2-5% this year, calling it a “year of moderation.”

More importantly factors like higher prices due to inflation, and less home mortgage applications due to higher interest rates have also taken their toll. Fewer people want to take on 7% long term mortgages if they know that a lot of people still have their 3% pre Fed hike mortgages. You can’t blame them, with all the uncertainty going on in the financial markets and the government debt ceiling crisis.

Paradoxically the more home improvements that owners do, generally the market value of their homes increase. The more dilapidated a house has become, the more that its market value depreciates, as potential buyers will realize that the houses need some construction work before they move in. Home improvements counteract that.

Besides what could be more American than having some power tools in your home to do some repairs? That being said, the state of the economy still can’t be dismissed as a non-issue.

Take lumber for example, a key component of house construction. From a high of $1,515 per 1,000 board foot in May 2021, it is now ranging just above $300. That’s a proxy for a lack of construction supply demand. Another is housing starts, an indicator of how many new home construction projects were started, were at 1.42M in March 2023, still higher than the COVID pandemic pause which drove it below 1M, but lower than the more than 1.8M starts when construction resumed later last year 2022.

For some, the depressed construction commodity prices might be a signal for them to proceed with their small improvements. But for others, they have gotten too distracted by current events to act.

Also some construction firms might use this opportunity to stock up on commodities while these are historically cheap. However, keeping inventory for a future construction recovery is only an option for well capitalized developers. Most construction financing is debt heavy, and it is extremely hard to get a loan right now for small developers, unless they agree to the high rates.

Right now, the main thing on most people’s minds is to understand the threat of an impending recession, higher interest rates, even a possible debt default on their lives. Hence people prefer to just sit on cash for the moment, ideally in current short term US government treasuries that are earning around 5% per annum. A lot of people are just sitting tight on planned improvement projects, preferring to postpone those to when the future outlook is better.

The only bright spot on the horizon for developers is that even with the current conditions, houses are still in short supply in many areas. Once economic conditions improve, and interest rates settle down to what the public perceives as manageable, that is when construction will regain its momentum.

In addition, some people may still want to enhance the value of their homes anyway if they have the cash, and they want to be able to sell at above market rates at any moment’s notice. For those people, they may still want to proceed with their home improvement activities right now.

Home improvements are an important component of retaining value for homes in the secondary market. We need to keep this tradition of making improvements alive and well both to keep home values at top levels, and also to enhance our enjoyment and quality of our lives with our families.