Square Is a Growth Stock

Investors regard SQ as a growth stock. It’s important to remember that growth stocks not only have high potential returns, but also pose high risk.

Growth stocks like SQ can produce the massive gains that many investors aim for. Yet, as with most other growth stocks, any softening of the economy could quickly impact Square’s growth rate, margins and revenues. Wall Street would not like such a development, so it would penalize  Square.

Although SQ started as a payments company,  in recent quarters it has introduced a range of software, hardware and apps to service small businesses and individual clients. The company has also sought to act more like a traditional bank.

Indeed, SQ has recently applied to become a traditional bank. Investorplace contributor Ian Bezek has discussed the potential impact of a banking license on SQ stock. Becoming a bank could jump-start Square’s long-term growth, eventually driving SQ stock higher.

Through various growth initiatives, SQ is now aiming to become a major player in the fintech apps sphere as well as a small business platform that offers a wide range of services.

When Square acquires a new client,it may be able to sell other services to the client.  Therefore, the future of SQ stock is partly dependent on the number of new clients it can attain and partly on the range of services it can offer.

Released on May 1, its most recent earnings report and accompanying shareholder letter provide a good overview of the growth of its service offerings. Square’s business model is evolving as the global payments space develops.

Wall Street Has Questions About  the Valuation of SQ Stock

Clearly, SQ is expanding its services and merchant ecosystem across different channels, and many growth investors are bullish about the long-term outlook of Square stock. However, they need to examine how each business that Square is now creating will contribute to its bottom line.

While SQ currently enjoys a head start in serving small businesses, Wall Street has some questions about whether it can maintain that growth. If the U.S. economy slows, Square’s growth may start to decelerate rather quickly.

Moreover, not every area Square expands into will necessarily translate into easy money for the company. And unless SQ increases its revenue base, Wall Street may not be too forgiving of the high valuation of SQ stock. Therefore, I’d urge long-term investors to exercise caution on Square stock at these prices.

Many analysts are expressing doubts over Square’s expansion into lending and questioning whether SQ is taking on too much risk.

Another area of potential concern is the declining growth of its transaction fees, which still provide the majority of its revenue. Square’s shifts toward subscription and services revenues may not be enough to make up for the decelerating growth of its transaction fees.

The May 1 earnings report showed that the company’s gross-payment volume grew a relatively modest 27% yer-over-year to $22.6 billion, leading to concern on Wall Street.

The owners of SQ stock need to decide whether the company has potentially diversified way too much away from its core business of payment processing.

The Short-Term Technical Chart Paints a Mixed Picture of SQ Stock

Despite the euphoria about SQ  in the three years since the IPO of SQ stock, the shares have been weak since reaching their all-time high of $101.15 in October 2018. In 2019, although SQ stock is up over 15%, April and May have not been good months for the shares. The company’s  weak Q2 guidance has triggered the recent volatility of Square stock.

From a technical perspective, I am not expecting Square stock to make a significant leg up any time soon. In the next few weeks, SQ stock is likely to be range-bound, between $65 and $70.

SQ has strong support at $60. However, if there are any negative headlines that affect the technology sector or the fintech sector specifically, then Square stock may easily go below $60.

I do not expect SQ stock to reach the $100 level any time soon because the market may be starting to price the stock more realistically.

The daily volatility of Square stock is high, giving it a broad trading range, so short-term traders should proceed with caution. Expect nearer-term trading in SQ to be choppy at best.

Square stock will need to stabilize and build a base again before a long-term sustained leg up can occur. Investors need to be careful about chasing the stock at this point.

Strategies for Buying SQ Stock

Square stock has fallen meaningfully in recent months. In the coming weeks, I would be a buyer of the shares of the payments company around $60 or lower, especially between $50 and $55.

If you already own Square stock, you might want to stay the course and hold your position. That said, if you are worried about short-term profit taking, then within the parameters of your portfolio allocation and risk/return profile, you may consider placing a stop loss about 3%-5% below the current price point, to protect the profits you’ve made so far.

If you are an experienced investor in the options market, you may also consider using a covered call strategy with approximately a six-week time horizon. In that case, you may, for example, buy 100 shares of SQ stock around its current price of $68, and at the same time, sell a SQ Jul 19 $65 call option.

The $65 option offers downside protection in case of volatility and a decline of SQ stock. The strategy would also allow investors to participate in an advance by Square stock. This call option will stop trading on July 19 and expire on July 20.

Such a covered call would give you breathing space until the markets potentially calm down. Then, as earnings season approaches, you can decide on the best course of action for your portfolio, with less anxiety than an unhedged investor.