Affirm Holdings (NASDAQ:AFRM) has been nothing short of a disaster for investors. The company’s recently released earnings for second quarter 2022 had a much lower forecast than analysts were expecting. But that doesn’t completely explain everything. AFRM stock has been on a massive slide in the last three months or so.
And it is not like I didn’t forewarn investors. I felt strongly about the “buy now pay later” (BNPL) lender’s lack of profits in my Sep. 22 article: “With More Losses in the Future, Stay Away from Affirm.”
There is every indication that the situation has not improved. As a result, investors might want to stay clear of AFRM stock for the time being, despite its huge decline. I will discuss some of the reasons why in this article.
Negative Interest Rate Spreads
I wrote after the Sep. 9 earnings release that Affirm most likely has a negative interest rate spread — the difference between its cost of funds and the rate it earns. So far, even in Affirm’s latest earnings release, it does not explicitly state its net interest margin (NIM) — most likely as it is negative.
On top of that, Affirm does not charge late fees, annual fees, or the other typical fees that most credit card lenders get away with. It has no cushion for the likely negative NIM spread it is experiencing.
On top of this, the company apparently is experiencing detrimental increases in losses. A lot of people aren’t paying their BNPL loans either on time or at all.
For example, in the six months leading to December 2021, Affirm reported that its “provision for credit losses,” which is one of its biggest transactional costs, has skyrocketed. It rose from $41.45 million in the year-ago six-month period to $116.28 million. This gain is much higher than the 26.9% gain in lending income and the 19.9% increase in its loans held for sale.
Here is another way to look at this. On Jun. 30, 2021, it had $2.02 billion in loans held vs. $2.42 billion. This is a gain of $403 million in loans. But its provision for loan losses accounted for $116.3 million of this increase, or 29% of the total. In other words, almost 30% of all its loans will turn sour.
How are you going to make money with this kind of credit experience? Not very easily, it turns out.
What Is Going On?
Apparently, a lot of people feel like skipping out on these BNPL loans. Usually, the BNPL financing is for small dollar amounts relating to a specific purchase. The company which sold the item can’t get the product back. They also are not at risk, since they get paid by Affirm.
That could be one reason. Another reason could be that we are clearly heading into a pre-recession period. Inflation is spiking and some people are having difficulty finding jobs, or, frankly are quitting their jobs. If the U.S. Federal Reserve starts a major rate hike campaign, that is only going to spur on further credit losses.
In fact, this is exactly what the company said in its Feb. 10 earnings release. It expects revenue less transaction costs to fall to $138 million to $143 million. According to Barron’s magazine, this is lower than what analysts at Piper Sandler was expecting at $177 million.
Remember, transaction costs include the provision for loan losses as one of its major components. In addition, the company may be expecting that its funding costs will rise, as well, as the Federal Reserve begins hiking interest rates. That also increases the company’s transaction costs and further exacerbates its NIM.
What to do With AFRM Stock
Affirm is still predicting that its adjusted operating loss will be 19% to 21% of revenue for the upcoming quarter. And for the fiscal year to Jun. 30, 2022, it expects an operating loss margin of 12% to 14%.
That is nothing to write home about. Investors want to see profits or even the possibility of profits. There is nothing in the earnings release at Affirm that shows this will happen.
It is possible this company could face a severe funding crisis if a recession hits after the Federal Reserve raises rates and/or if Russia invades Ukraine and energy costs spike.
In fact, if you are open to shorting a stock, or even buying puts, AFRM stock is a candidate worth investigating. Keep in mind that there are extra risks in taking on this kind of investment and it is highly speculative, risky, and not for most investors. My writing about this is not a recommendation or even financial advice. But I am personally considering doing this. That is how strongly I feel about this.
On the date of publication, Mark R. Hake did not hold any position (either directly or indirectly) in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.