- Despite its big drop in price, you may still think Upstart Holdings (UPST) is a steal at today’s prices.
- However, there’s a caveat; this fintech firm’s AI-based underwriting model could fare badly in an economic downturn.
- Even if you think the market has overreacted to recent earnings, you may want to still take your time.
Even as tech stocks (as measured by the NASDAQ Composite) are down 27.6% from their high-water mark, admittedly it’s tough to find bargains in the sector. Many names have become cheaper, yet at the same time remain pricey. At first glance though, that doesn’t appear to be the case with Upstart Holdings (NASDAQ:UPST) stock.
Yes, the fintech firm, changing the game with lending via its artificial intelligence (AI) underwriting model, hasn’t only been knocked lower by market volatility. The company’s recent release of disappointing guidance has been the main driver of its latest high double-digit drop.
Still, you may think the market has overreacted. However, there’s another risk that may not yet be fully priced into shares. That would be the risk of an economic downturn, which could severely affect its business. Keep this factor in mind before you decide to go contrarian on this “future of lending” play.
|Upstart Holdings, Inc.
UPST Stock Is Cheap for a Reason
2021 was a banner year for Upstart Holdings. It was able to dramatically increase the number of lending institutions using its platform. This resulted in a 252% increase in total revenue, and a far greater jump in profitability.
But as seen in its latest earnings report and guidance update, this time of operating performance isn’t going to repeat itself in 2022. Cutting its revenue estimate to $1.25 billion, down from $1.4 billion, growth is slowing down much more rapidly than previously expected.
That’s why, despite beating on revenue and earnings for the quarter, UPST stock plunged after its latest updates. Again, you may think its post-earnings drop of more than 56% was an overreaction. Per estimates aggregated by the Wall Street Journal, analyst consensus calls for it to earn $1.91 per share this year, $2.66 per share in 2023, and $4.30 per share in 2024.
Not bad for a stock changing hands today for around $33 per share. Then again, as the saying goes, “there’s no such thing as a free lunch.” Just like how you can’t get something for nothing, you can’t get high growth at a low price, with limited risk. As mentioned, there’s another risk that may result in this promising “upstart” experiencing a severe reversal of fortune.
Can Upstart’s ‘Disruptive’ Lending Model Withstand a Downturn?
The term “disruptor” may be cliché, but it’s an accurate phase to use when discussing this fintech firm’s lending model. So far, Upstart has been able to demonstrate that its AI-based alternative to traditional loan underwriting methods results in greater approval rates and lower default rates (in the aggregate).
That’s why it’s been able to see such widespread adoption in a short span of time. However, the banking world may have too quickly assumed that this company has built a better mousetrap. At least, that’s the view of Wedbush’s David Chiaverini. For months the analyst has argued that its platform has yet to be tested during a recession.
As delinquencies rise, and the risk of a recession grows, this is a big potential problem with Upstart. The reputation of its platform being a better assessor of risk could unravel. In turn, hurting demand from its lending partners.
Already rating shares the equivalent of “sell” prior to the disappointing earnings miss, Chiaverini has since again slashed his price target, from $70 to $35 per share. He could further slash his price target if his bearish thesis really starts to play out.
After Big Drop, ‘Wait and See’ is The Best Move
Put simply, the market hasn’t made a mistake in pushing this stock to its current valuation. Along with the slower-than-expected growth, there’s big downside risk if there’s an economic downturn. Today’s valuation accurately discounts potential future results.
Also, keep something else in mind. A full return to its past high ($401.49 per share) isn’t likely. As interest rates rise, stock market valuations aren’t going to reach the levels last seen in 2021’s near-zero interest rate environment. That said, even a partial recovery could mean big gains relative to today’s trading price, assuming it rides out a potential downturn and is able to meet or beat earnings expectations.
Still, while upside potential may seem high, so is risk. You may want to take your time before buying UPST stock.
On the date of publication, Thomas Niel did not hold (either directly or indirectly) any positions 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.