While I continue to believe that Upstart Holdings’ (NASDAQ:UPST) technology is very valuable and that the long-term outlook for UPST stock is quite positive, I think that the cloud-based artificial intelligence (AI) company is facing difficult shorter-term challenges.
These challenges include both macro and micro issues. Given this situation, I continue to advise investors to wait for a more-favorable price point before starting a new, bullish position in the name or buying additional shares of the company.
Valuable Technology and Strong Growth
I’ve long argued that the prospects of companies that have developed specialized AI tools are very strong. That’s largely because building those tools that are tailored to certain sectors is very labor-intensive, knowledge-intensive and/or time-intensive. And in several previous columns, I’ve argued that Upstart is in the latter category.
Indeed, as another InvestorPlace columnist, Mark Hake, recently suggested, Upstart’s AI technology is very valuable for banks. That’s because its systems allow lenders to safely extend loans to borrowers with low credit scores whom they would otherwise turn away. As a result, Upstart increases lenders’ top and bottom lines, and, as Hake correctly argues, UPST stock should be valued like a name in the marketing sector.
Also important is that, on a year-over-year basis, the company continues to generate tremendous growth. For example, Upstart’s third-quarter revenue more than tripled over the same period a year earlier, climbing to $228 million from $194 million.
And its Q3 earnings per share almost quadrupled YOY, coming in at 60 cents, versus 16 cents during the same period a year earlier.
Tougher Macro Environment Ahead
On the negative side, there are signs that Upstart’s growth is slowing meaningfully. Its revenue increased 60% in Q2 versus Q1, but only reached 18% in Q3 from Q2.
Additionally, Upstart expects net income, excluding certain items, to drop to $48 million-$50 million in Q4 from $57.4 million in Q3.
Moreover, based on analysts’ average 2022 earnings per share estimate for the company, UPST stock has a forward price-earnings ratio of 84. That’s a very high valuation. And given multiple macro concerns voiced by many investors, this is not a great time to buy the shares of a company with a high valuation whose growth may be slowing.
Among these concerns are high inflation and the Fed’s response to inflation, which could include sooner-than-expected interest rate increases.
Increasing concerns about these issues among investors, Goldman Sachs recently warned that “The current inflation surge will get worse this winter before it gets better.”
During times of rising interest rates, which could easily be triggered by elevated inflation, some investors avoid highly valued stocks. That’s because higher interest rates make it more costly for investors to wait for the cash flows of highly valued companies to justify their stock prices.
That’s one reason why, in recent days, weeks, and months, the shares prices of many companies with high valuations — including Upstart, Rivian (NASDAQ:RIVN), and Nio (NYSE:NIO), have declined sharply.
The Bottom Line on UPST Stock
Upstart has a valuable, highly profitable business. Moreover, the company is preparing to expand into auto lending. According to Upstart, the auto lending market is six times as big as its current primary market: personal loans.
Given the latter points, I believe that Upstart and UPST stock have very bright long-term futures. But the current combination of Upstart’s slowing growth and a difficult macro environment for highly valued stocks make this a dangerous time to buy the shares.
That’s why I urge investors, before buying the stock, to wait for one or more of the following to occur: Upstart begins showing that it can succeed in the auto loan market, UPST stock drops below $150 or the macro environment improves.
On the date of publication, Larry Ramer did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Larry Ramer has conducted research and written articles on U.S. stocks for 14 years. He has been employed by The Fly and Israel’s largest business newspaper, Globes. Larry began writing columns for InvestorPlace in 2015. Among his highly successful, contrarian picks have been Plug Power, solar stocks, and Snap. You can reach him on StockTwits at @larryramer.