It seems like nothing can stop PayPal (NASDAQ:PYPL). After a brief slowdown during the bear market in late 2018, PayPal stock had returned to its late-summer highs by January.
The move higher continued, and now it trades at record highs. Given the growth in the payments industry, PYPL will continue its rise long term. However, the question is not whether to buy PYPL stock, but if investors should choose it over its closest peers.
PayPal stock continues to register impressive growth, even as it seeks to address the competitive threat posed by Square (NYSE:SQ). Fueling this is a rising cashless society and a move toward more ecommerce. This bolsters not only PayPal stock and that of Square, but also payment processors such as Visa (NYSE:V) and MasterCard (NYSE:MA).
This increase continues at a steady but significant pace. According to eMarketer, retail ecommerce sales will rise from $3.453 trillion this year to $4.878 trillion by 2021.
PayPal may have also become a force in the banking business itself. Its digital wallet, Venmo, has risen to over 40 million accounts as of the first quarter. Venmo also registered a 73% increase on payments on its platform. This compares well to Bank of America (NYSE:BAC) with 37 million digital accounts and Wells Fargo (NYSE:WFC) who with 29.8 million digital users. PYPL lags only JPMorgan Chase (NYSE:JPM), which claims 51 million active accounts.
A Closer Look at PayPal Stock
Given this increase, I see ample room for growth for all major players involved. The predicted profit increases in PayPal stock represents the growth well. Analysts expect earnings increases to come in at 23.1% this year and 17.8% next year.
This has also brought somewhat higher price-to-earnings (PE) ratios across the industry. PayPal’s forward PE now stands at 32.1. While not cheap, that appears inexpensive compared to SQ stock and its 59.3 forward PE ratio. Moreover, the multiples of Visa and Mastercard are somewhat lower, but not by much.
But here’s the thing.
In this sector, multiples tend to rise with rates of profit growth. Square supports a significantly higher PE ratio. However, Wall Street believe SQ’s profits will rise by 59.6% this year and 49.3% the next.
In 2020, Square’s profits will grow at about 2.5 times PayPal’s earnings this year. Next year, Square will roughly triple PayPal’s growth rate. Given this differential, I see a case for buying SQ when its forward multiple comes in a less than double PayPal’s PE ratio.
Conversely, investors can pay about 26.4 times forward earnings for Visa. Following what looks like an industry trend, that will buy investors lower but still impressive growth rates. Analysts expect Visa will see a 16.5% earnings increase this year and a 15.6% rate in 2020.
Moreover, PYPL has risen more than 46% from its December low. This comes in substantially higher than the 33%-plus growth in SQ over the same period. Given this rapid rise, I cannot rule out a short-term correction.
What should investors do?
PayPal stock will remain a growth equity for years to come, but it may not outperform a key peer. PYPL trades near record highs. Its massive profit increase justifies its PE ratio in the low 30s. However, one cannot ignore Square stock, which offers almost triple the growth at less than double the valuation.
Again, I do not think this negates the bull thesis in PayPal stock. I also believe payment stocks will generally continue to rise long-term. In my view, it comes down to risk tolerance. Investors more comfortable with lower multiples should consider PayPal or maybe Visa. However, for those who will willingly pay a higher PE for more elevated growth levels, Square stock might make a better choice.
As of this writing, Will Healy did not hold a position in any of the aforementioned stocks. You can follow Will on Twitter at @HealyWriting.
