Who knew furniture sales can be so exciting? Yet that’s the perfect word to describe shares of furniture and home-goods e-commerce specialist Wayfair (NYSE:W). Early in 2019, I was on both sides of the investment thesis of Wayfair stock. Almost a year later, how should prospective buyers approach this wild entity?
First, a little personal history with these shares. Near the beginning of last year, I suggested that investors take a crack at Wayfair stock. Although the underlying company had some fiscal issues – namely, that it wasn’t turning a profit – Wayfair was essentially the Amazon (NASDAQ:AMZN) of the home furnishings market.
However, shares roared to unbelievable heights. While Wayfair was carving out a nice niche for itself, that alone didn’t justify its mercurial rise. Furthermore, net income losses continued to widen, which didn’t bode well for sustainability.
Therefore, I gave what I felt was the only reasonable idea, which was to lock in profits on Wayfair stock. For those that missed the initial run up, I suggested waiting. And I’m glad I did. Not too long after my warning, shares crumbled back down to earth.
From Mar. 21 through the end of December, Wayfair stock hemorrhaged more than 47%. But with so much red ink, contrarians are now tempted to go against the grain.
Sure enough, Wayfair stock is one of the hottest commodities on Wall Street this month, jumping over 14%. Further, many of the headwinds that had impacted consumer sentiment in 2019, such as the troubling U.S-China trade war, have now eased considerably.
With consumer confidence bouncing back from last summer’s lows and with a strong economy, is now the time to buy Wayfair stock again?
Underlying Real Estate Market Poses Problems for Wayfair Stock
Technically, shares of Wayfair might have enough momentum for a few more ticks on the present rally. But in the months ahead, I’m now skeptical about this equity’s viability.
Here’s my thought process: in order for Wayfair stock to continue moving higher, we obviously must have strong furniture/home goods demand. And the best confidence indicator for such a thesis is a robust real estate market. Simply, if more folks are buying homes, they’ll spend cash furnishing it to their liking.
Not surprisingly, the correlation between median home sales prices and furniture retail market revenue is incredibly strong. From 1992 through the calendar third quarter of 2019, I calculated a correlation coefficient of 87.3%. Essentially, wherever home demand goes, so too does the furniture/home goods market.
Interestingly, though, in prior years, the furniture market turned out to be leading indicator for real estate demand. Since late 1992, furniture and home furnishings sales jumped dramatically while homes sales prices steadily marched higher. But in calendar Q1 2006, furniture sales peaked. In contrast, home prices didn’t peak until one year later.
Now, I see the opposite situation: home prices are the leading indicator, while the furniture market is, in my view, fighting against gravity. I say this because so far, home prices have peaked in Q4 2017. Yet furniture sales are treading water and in my opinion, unconvincingly.
If so, this dynamic doesn’t augur well for Wayfair stock. As I mentioned above, the underlying company isn’t the most fiscally stable example on Wall Street. Thus, the last thing it needs is trouble in real estate demand. Because the two markets are so heavily correlated, weakness in one could spark weakness in the other.
Furniture Market Is Disappointing
Perhaps I’m overthinking the relationship between real estate demand and the home furnishings market. In that case, let’s just look at the latter sector.
According to information compiled by the Federal Reserve Economic Data, furniture/home furnishings retail sales peaked in 2006 at $113.1 billion prior to the 2008 financial crisis. Based on estimates for Q4 2019, total sales last year amounted to $117.3 billion.
In 13 years, annual furniture sales moved up less than 4%. To be sure, it’s growth. However, it’s a disappointing rate compared to other markets.
Again, terms like disappointment is not what you want to hear if you’re a long-term stakeholder in Wayfair. It’s not as if the entire home furnishings sector is addressable exclusively for the company. Considering the ever-present threat of competition, a potentially shrinking market makes shares unusually risky.
As of this writing, Josh Enomoto did not hold a position in any of the aforementioned securities.