Watch for Downgrades of Home Depot

With interest rates on the rise and talk of a housing bubble not slowing down, I am anxiously awaiting some downgrades of Home Depot (HD). The stock is already fairly cheap, trading at $37 and change or 14.8x 2005 EPS estimates. However, in the current environment that multiple could contract further.

I wouldn’t be surprised to see analyst downgrades of the stock shortly. The argument they’ll make will be pretty straightforward and logical. As interest rates rise, the housing market will slow and existing homeowners will have less money to spend on home improvements. As a result, HD’s sales will slow and earnings will be at risk.

These types of comments, while mostly true, will present investors will an opportunity to buy the stock, not sell it. Worries about these things tend to be overly dramatic. And stocks tend to overreact to news as well, especially negative Wall Street comments. If HD shares drop into the low 30’s, the stock will trade at about 13x earnings. At that point, I think investors should use the doom-and-gloom scenario to step and buy the stock.

There is no guarantee the downgrades will come, but with 13 research departments rating Home Depot a “buy” and only 1 a “sell,” there are plenty of possibilities. We only need a couple of those analysts to pull their buy ratings to get a meaningful reaction.