The Market Is Getting Frothy
It’s been only a month since the S&P 500’s last 5% correction and 5 months since the last 10% correction but we think another is on the way. Not because of any underlying weakness in the market but because of frothiness. At 21.9X forward earnings, the is trading at valuations not seen in decades making it an attractive time to take profits off the table if nothing else. One of many possible catalysts for this correction is the Q1 earnings season but there are others like rising interest rates, Biden’s tax plans, and a resurgence of COVID-19. As for earnings, the expectations are high and we’ve already seen evidence this quarter of great not being good enough.
Most recently, reports from ConAgra Foods (NYSE:) and Constellation Brands (NYSE:) came in both better than expected and with positive guidance, and yet shares are down in the wake of the reports. If this trend continues we could easily see a 5% correction turn into a 10% to 20% correction when it’s all said and done. In our view, this will be yet another entry point into what we view as the early stages of a long-term bull market in U.S. equities.
1. Evercore Singles Out Home Improvement
Evercore (NYSE:) issued an update on its internal Home Improvement Lead indicator. According to them, the indicator has edged down from its high in January but still points to some upside in the sector. Based on strength in housing, the flight to suburbs, new household creation, and labor market data we think this is grossly understating the point. Sales at retailers like Home Depot (NYSE:), Lowe’s (NYSE:), and Tractor Supply (NASDAQ:) have been accelerating and the pace of growth is only going to slow because of tough comps to last year’s COVID surge.
Among the drivers of growth in the sector, Evercore lists supply constraints (low inventory), pro constraints (can’t find people to do the work), and reduced spending per unit compared to past home-improvement cycle peaks. In our view, the home improvement cycle is tied to secular trends in the workforce that have another decade to run. Evercore is leaning toward businesses with higher exposure to professional services due to its view DIY’ers will hand off their projects to pros as they become available and COVID-19 restriction fade and we think that a good idea. Retailers like Home Depot and Lowes offer exposure to both.
J.P. Morgan Is Looking At The Home Builders
The analysts at JPMorgan (NYSE:) issued on the home builders after conducting their quarterly pre-earnings preview. They see the sector pulling back a bit after the Q1 reporting season following a period of relative strength. In their view, stock prices are pricing in a great quarter with no room for exception and that has it set up for weakness should earrings fail to impress. In our view, the recent strength in the home builders is pricing in an extended period of industry strength characterized by high demand, rising prices, and expanding capacity. It may be several years before the cycle runs out and the home builder stocks should move higher until then.
Along with the builders, JP Morgan sees an opportunity in building products as well. They’ve called out Whirlpool (NYSE:) and Masco (NYSE:) and we think names like Haverty (NYSE:) and Aarons (NYSE:) should be included as well. These company’s both pay solid dividends with growth and dividend growth in their futures.
eCommerce Is The New Commerce
eCommerce stocks have been on the move this year as well with post-pandemic winners like Williams-Sonoma (NYSE:) and Shoe Carnival (NASDAQ:) up 80% and 65% YTD because of it. eCommerce sales accelerated to 44% growth in 2020 because of the pandemic and those gains are not only sticky but the basis for future growth. Looking forward, the eCommerce industry is expected to continue taking share from traditional outlets along with widening use of the Internet. Any weakness in price action is likely to be short-lived in the face of labor market improvement, consumer confidence, and spending data, and a buying opportunity that shouldn’t be missed.
