Housing down, improvements up?

With yesterday’s National Association of Home Builder’s (NAHB) monthly reading of builders’ sentiment about the housing market sinking to 14, it is starting to become clear that the housing market is not getting better anytime soon.  The 14 reading is the lowest level since March 2009. Readings below 50 indicate negative sentiment about the market and the NAHB index has been below that 50 threshold for 51 consecutive months. At 14, the index shows that only about 1 in 7 builders have a favorable view of the housing market.

Unfortunately, with sales reports this week on new and previously owned homes in June widely expected to show the housing market remaining weak, conditions are not likely to improve anytime soon.  While most economists do believe that the overall economy is unlikely to dip back into recession, analysts are not expecting housing to recover for quite some time.  So, what might be a potential slow housing sales trade?

There tends to be the belief that when home sales drop, home improvements increase. Although I am never a fan of trading on “belief”, I definitely agree with letting the chart do the talking. One of the home improvement retailing stocks that I follow is Tractor Supply Company (TSCO). TSCO operates retail stores under both Tractor Supply Company and Del’s Farm Supply.  They also operate a Website under the name TractorSupply.com. Its stores are located in rural communities and offer a wide range of products including hardware and seasonal products, lawn and garden power equipment, truck, towing and tool products, work & recreational clothing and maintenance products for agricultural and rural use.

Please review the chart of TSCO below:

TSCO – 1 YR

As you can see, TSCO has been stuck in a range between $60 and $70 over the past 3 months. This stock has also been stronger than the overall market over this same 3 month period in the way that it has not created the same “lower-lows” that the overall market has.

While TSCO has been holding strong, the homebuilder’s stocks such as LEN, KBH and TOL have broken drastically lower. So, it would appear that the idea that home improvement retailers might do better than builders during tough economic times could be true. Also, did you notice the jump in TSCO’s stock about a week into July? That jump was do to TSCO raising it’s earnings outlook, which are set to be released on Wednesday.

If TSCO’s earnings are received well, might the stock finally break up through the $70 resistance? And if the earnings are a dissappointment, could the $60 support be broken?

The Tale of the Tape:  TSCO has been stuck in a $10 range between $60 and $70 over the last 3 months. They have raised their earnings guidance and the stock could be poised for a breakout, or a breakdown. Although I would never want to be in the stock before the earnings are released, I would definitely want to see how the stock reacts to the company’s earnings report. If the stock breaks through the $70 resistance, entering a long position with a stop below $70 could be a nice trade. However, if the stock were to break its $60 support, you could short the stock instead with a stop above $60. Another potential trade might be a buy at $60 if the stock appears to be holding that support. Once again, a stop below the entry of $60 would be advised.

Waiting for the most opportune times that I have outlined above could provide you with the highest probability trading points. No matter what your strategy or when you decide to enter, always remember to use protective stops and you’ll be around for the next trade.

Good luck!

Christian Tharp, CMT