One of the simplest ways to find good stock ideas is to identify megatrends and invest in them accordingly. The growth of e-commerce has already led to big gains for leading players in that space, but there's much more to come. Despite years of growth, online spending still makes up less than 20% of total retail sales in the U.S.
Two of my favorite choices in this space are PayPal Holdings (PYPL 1.82%) and MercadoLibre (MELI 12.69%). Here's why these industry leaders are well positioned to deliver market-beating returns.
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PayPal
PayPal has blossomed into one of the top digital payment providers since splitting from eBay in 2015. It has doubled its active customer accounts over the past five years to 346 million, and there are more than 26 million active merchants. This two-sided platform connecting merchants and consumers provides the company with plenty of advantages in terms of gathering insights into customer behavior.
PayPal also has powerful network effects working in its favor. Consider PayPal's peer-to-peer payment app Venmo, which processed $37 billion worth of transactions in the second quarter. The more people who use it, the more useful it becomes for others to join, creating a wider network of payment contacts. This dynamic also work to attract new merchants to the platform, since they want to tap into PayPal's massive customer base.
A recent deal with MercadoLibre could boost PayPal's user growth even further. As part of the agreement, PayPal is now available as a payment option in Mercado Pago's online checkout. This significantly expands PayPal's addressable market in Latin America, which is one of the fastest growing e-commerce markets worldwide.
PayPal has historically grown revenue and profits consistently, and the business seems to have gotten stronger during the pandemic. Management expects revenue and earnings per share to increase approximately 20% and 25%, respectively, in 2020. "In this environment, the demand for our products and services has dramatically increased and unleashed multiple opportunities," CEO Dan Schulman said during the second-quarter conference call.
The stock is expensive, trading at a forward price-to-earnings (P/E) ratio of 47, but growth stocks that deliver results as consistently as PayPal are hardly ever going to look undervalued. PayPal stock is worth the premium.
MercadoLibre
MercadoLibre operates the largest online commerce ecosystem in Latin America, spanning 18 countries with Brazil, Argentina, and Mexico representing its three largest markets. Its value proposition lies in the wide variety of services the company offers across its marketplace, fintech solutions, and logistics for sellers, and this has given MercadoLibre a large share of e-commerce spending in Latin America. In the most recent quarter, its active user base grew 45% year over year to reach 51.5 million. Items sold on the marketplace more than doubled, but the Mercado Pago payments business offered the most impressive performance.
Mercado Pago was originally offered as a convenient option for marketplace users, but it has scaled into a more general-purpose payments solution for online shopping and mobile point-of-sale solutions for in-store checkout. In the last quarter, off-platform payment volume grew 174% year over year excluding currency changes. The total payment volume from Mercado's mobile wallet across its three largest markets has also been growing at triple-digit rates year over year.
Like PayPal, MercadoLibre's mission is to democratize commerce for the underbanked. It saw new merchants adopt its payment offerings at record levels last quarter, and management sees an opportunity to further capitalize on the momentum this year by ramping up marketing expenses to grow its user base in the near term.
Investments in marketing to drive growth have pressured the company's profitability in recent years, which makes traditional measures of valuation like the P/E ratio not as helpful when evaluating the stock. It's best to focus on the big picture. MercadoLibre dominates e-commerce in a region where online spending still comprises only about 5% of total retail sales. Because of that, MercadoLibre should be able to grow for many years, and its stock remains one of the best options available to ride the e-commerce wave.
