Inflation, Cryptocurrencies, and Fintech IPOs

Inflation is on the rise, and there are investor fears that it could get out of control. How should you position your portfolio to thrive in an inflationary environment? Are cryptocurrencies inflation hedges, or are you better off with stocks or precious metals? And one of our favorite fintechs, SoFi, is set to finally go public via merger with Social Capital Hedosophia Holdings V (IPOE). In this episode of Industry Focus: Financials, Jason and Matt talk about the latest results from the business, as well as what investors should expect when the SPAC merger is finalized. 

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This video was recorded on May 24, 2021.

Jason Moser: It's Monday, May 24th. I'm your host, Jason Moser. On this week's financial show, we're going to dig a little bit deeper into the prospects of inflation, how that relates to all of the volatility we've seen in the crypto markets recently. SoFi is getting ready to go public, we're going to talk a little bit more about that and what investors can expect, as well as some recent earnings from SoFi. Also, Square is raising some money. We'll talk a little bit about what they might do with the $2 billion that they are going to be raising. As always, we'll have one to watch for you to wrap up the show. And as always, I've got my partner in crime here with me this week. It's Certified Financial Planner, Mr. Matt Frankel. Matt, how is everything going?

Matt Frankel: Just great, it's a brutally hot day in South Carolina.

Moser: It was brutally hot here in Virginia yesterday, but it cooled down a little bit today. We got a nice little break from things. I guess for guys like you, we were talking before taping, they're in the middle of installing the pool at your house and the heat I'm sure has just got you very impatient.

Frankel: Yes, very much so. My kids, more than me, don't understand why they can't just go jump in it right now.

Moser: Isn't that always the way? Well, Matt, this has been an interesting week here. There has been a lot of volatility, and a lot of news, a lot of headlines devoted to cryptocurrencies recently. We'll talk a little bit about that. Coupled with that, though, the results -- we saw an interesting article here recently in The Wall Street Journal that talked a little bit more about inflation and exactly how that may be presenting itself in the economy today. Let's talk a little bit first about inflation, where we think things could be headed and what that could mean for investors. Because generally speaking, when you talk about inflation, that's not something that is clearly detrimental to stocks, but it's absolutely something that can play into growth expectations and performance. Investors need to take this stuff, they need to keep this stuff in mind. As we see the potential here for inflation to start, I'm going to possibly accelerate a little bit here in the coming months and even quarters.

Frankel: Right now, we just saw the April inflation data showed that consumer prices rose a little over 4% year-over-year, 4.2%. That's definitely above the Fed's 2% inflation target. The question is, are we going to see a short term bump in inflation due to the reopening? Just a one time demand rushes into the market, we see a little inflation all of a sudden. Worse, it can be more of a prolonged trend as they've thrown trillions of dollars of stimulus into the economy. They've been printing money for a couple of years now. Is that going to cause a lot of inflationary pressure on the back end? 

We've recently seen wage growth is at the highest it's been in a long time, which could also help play into inflation. It's not necessarily a good or bad thing for your stock portfolio. It depends what you're investing in. The traditional hedge against inflation is always thought to be gold or silver, precious metals, things like that. Which, to be fair, does a pretty good job of keeping up with inflation overtime, not much more, but they do hedge against inflation. We'll get into the cryptocurrencies in a minute and I'm sure Jason has an opinion on it, as I do, but as far as the stock market goes, if you're worried about inflation, the best advice I can give is stick with companies that have a lot of pricing power.

For example, if consumer prices rise by 10%, Apple has the ability to raise the price of their iPhone by 10% and people are still going to buy it. There are industries that are a lot more competitive, and don't have quite as much pricing power. So that's one thing to ask yourself: if inflation really picks up, what companies will be able to take advantage of the increases in prices? Being that this is the financial show, banks are somewhat inflation protected, because inflation generally comes with rising interest rates, which if you are a business that lends money, that's a good thing. It's a fine balance between supply and demand. If inflation stays at 4%, like it is now, which is a pretty elevated rate, that could be a good thing for banks if rates tend to tick up. If inflation jumps to 10%, and interest rates really skyrocket out of control, that will hurt consumer demand and it's bad for banks. Banks are what I call a moderate inflation hedge. They tend to do well in periods of decent but controlled inflation. Then there are the big box stores and the dollar stores and things like that that tend to do pretty well during inflationary times. Because if you're going to go grocery shopping, for example, you're not going to get much cheaper than Walmart or Costco. Those tend to get people spending money no matter what the economy is doing. 

It's not necessarily that you need to be out-of-stocks and into gold, silver, or cryptocurrencies if you believe inflation is really going to stay elevated for a while. It's just to make sure you focus on the right companies that won't get crushed in an inflationary environment.

Moser: Yeah. I think you're right there and inflation, it's an interesting thing to observe, because one of the things that stands out to me just recently or at least, looking at last week through the earnings releases and the calls for Home Depot and Lowe's in the theme over the past couple of quarters. If you've been anywhere near the housing market then you probably know this, but lumber prices have really taken off. Lumber prices have really taken off and what you see in the language in these calls is that, while Home Depot and Lowe's are able to continue selling that lumber because they typically have to, that's that's a unique market, they do start to recognize some gross margin pressure from that lumber. They can only price it so much. They can only realize so much pricing power on something like lumber before it starts to cap out and you see a little bit of gross margin pressure there. To me, that was one thing that stood out. 

But also, I wonder, in regard to inflation, it seems like right now, we've got a lot of interesting things going on. We've got the economy reopening, we've got a lot of stimulus out there, we've got folks who should have, in theory, some money to spend, it sounds like, but we've also seen a supply chain crunch. I'm not talking about just semiconductors either. This really does seem to be extending across all areas of the economy. There are just some supply chain issues that are playing out. When you start to have a limited supply of things and you've got a surplus of the hot dollar, surplus of money out there for people to be spending, those are the conditions that inflation just loves.

Frankel: For sure. We're definitely seeing a supply chain crunch. That's why the lumber market is going so crazy. A lot of that is supply chain. So yeah, that also can create inflationary pressures. Like you said, there are certain things where there isn't that much pricing power. You can only raise prices on lumber so much before people are going to stop building decks on their house and pump the brakes on unnecessary spending. But at the same time, I think like milk, the price of milk can double and people are still going to buy. The price of gas could double, which it almost has from the past year, the price of gas could double and people are still going to fill their tanks up. There are a lot of industries that do have a lot of pricing power. You'll see demand bend a little bit, but demand is a lot more flexible in some industries than others.

Moser: Yeah. Relatively elastic, I'd say. It's just, it's not going to really change much. The gas is a perfect example there. There was an interesting data point I was reading when I was reading through this piece and it just struck me that this is why we talk about it. This data right here from early 1973 through last December, shows that stocks deliver positive inflation adjusted returns in 90% of rolling 12-month periods that occurred when inflation was below 3% and rising. Now, that number, 90%, falls to 48% during periods of time when inflation was above 3% and rising. For those who asked why we are talking about this, that's why we're talking about it because there is data out there that shows it does matter. You have to be maybe a little bit more picky when it comes to your stock purchases. 

Now, the flip side, it's not just stocks that do this dance when inflation starts becoming more part of the conversation. You mentioned gold and silver as being traditional hedges. I think a lot of people are familiar with those. Recently, clearly, we've been talking more and more about cryptocurrencies lately, Bitcoin being the standard, I guess, but then all of these other coins that come with the conversation. Crypto, I think there's just a million different opinions out there. You either buy into it or you don't. I think it's probably safe to say that you and I are both a bit more on the skeptical side of things. But generally speaking, why would crypto be seen as a hedge to inflation?

Frankel: Well, first of all, in the words of Ringo Starr, I say this with peace and love. [laughs] I think the last week or so, the price action in crypto currencies has shown that it is not a store of value yet. Whatever side of the argument you're on, whether cryptocurrency is the future of finance or not, a store value doesn't lose 20% of its value in a week. That's not a story value, that's literally the opposite of the store value. That's evaporating value [laughs] Ethereum is the other one, which I actually think has more potential than Bitcoin in a lot of ways. It's down 36% in the past week, in one week. I don't know if that's ever happened with the U.S. dollar, where it's lost 20% of its value against any other major world currency in the span of a week. It's not there yet. The big argument why Bitcoin is a hedge, if you ask certain people, is because there's a finite amount of it. Same reason that gold is a hedge. The government can't just print more gold, the government can't just print more Bitcoin. I buy that to a certain extent. If we had reached the point where Bitcoin was widespread adoption, it was a readily usable currency, it was an accepted store value by more than just 10%-20% of the population, which it is right now. We're just not at the point where you can call Bitcoin a store of value, and you have to have it be a store of value before you can really call it a hedge against inflation. The recent price action really, in my mind, invalidates the hedge argument.

Moser: Yeah, I think that makes perfect sense. It really all boils down to the finite supply. That makes perfect sense. Let's fast forward 10 years. Are we there in 10 years where Bitcoin can be seen by most as a reasonable store of value? I would assume that the way things are going, we're probably going to continue to grow, at least, folks who see the merits of cryptocurrencies in whatever shape or form. There's going to be, I think, continued adoption, albeit probably somewhat slowly for the masses, but at some point or another, maybe we'll get there. It's not to say we would never get there.

Frankel: There you go, trying to bait me again. [laughs] I think it's a mistake for anybody to think of it as a given that we are eventually going to get to mass adoption of cryptocurrencies. That's still very up in the air at this point. During some of our Bitcoin data reviews, one of our experts that I interviewed, I'm not sure which one off the top of my head, but one of them referred to what's going on right now as an inflection point, where we're either going to see Bitcoin accelerate into mass adoption or not. It's not going to keep going at its current pace, where you're going to have 10%-20% adoption, that subset of the population just believes in Bitcoin forever. You're either going to see it really start gaining traction or go the other way. I really think it's a very binary outcome. I personally don't think it's going to get there. I'm very skeptical of the long-term use case of Bitcoin. 

When you hear about all these projects being done on the blockchain and things like that, like MasterCard, and Visa, and all these other fintechs have their own blockchain divisions, that are developing blockchain finance programs and things like that, generally that's on the Ethereum blockchain. I could see that having more staying power than Bitcoin, but I really don't think you're going to see Bitcoin become a mainstream currency. I just don't. I like the concept, I like the technology, I mine Bitcoin, I've used Bitcoin, I lived off Bitcoin for a day in Las Vegas just to see if I can do it. So like I said, I say this with peace and love. I just don't see it getting there.

Moser: Yeah. I tend to agree with you. But by the same token, as an investor, one of the things I've just learned is, you just always keep an open mind. I'm going to keep an open mind to it. It doesn't mean I'm interested in it. I don't care about it. I still don't see the use case for it. I agree with what you're saying. I also wouldn't be surprised at all if 10 years from now, maybe we did see some change in the mentality or some material used cases for it and other cryptos. It's going to be an interesting story to follow, there's no question about it.

Frankel: Sure. If you and I are wrong and it does gain mass adoption, in 10 years, Bitcoin could be $1 million.

Moser: Yes, finite supply. Absolutely could be.

Frankel: My prediction is that in 10 years, Bitcoin will either be over $500,000 or under $1,000. Nowhere in the middle. I'm either going to be really right or really wrong. Say what you will, over the past 10 years of Bitcoin's existence, it hasn't done a lot of just buttering along. It's either gone up or down or straight up or straight down. So if the past 10 years continues, Bitcoin's $1 million in 10 years, but interest can really evaporate quickly if it doesn't pan out. So I think it's going to be really high or really low.

Moser: Yeah. I think that interest is going to be key. If something like 20% of the population right now has dabbled a toe in the crypto space, we're going to need to obviously have a lot more than that to create the ongoing interest. Otherwise, you're right. I will have a hard time. So yeah, it's going to be an interesting one to follow-up for sure. Matt, a company that you and I like to talk about a lot on this show is getting ready to start trading on the public markets here. It looks like SoFi, Social Finance Technology, is going to begin trading on Tuesday, June 1st. A week from tomorrow, we're going to see SoFi out there on the public markets. You recently have just gone through some earnings results for the business and you were impressed with what you saw.

Frankel: Yeah. Assuming everything goes according to plan where they're meeting and the shareholder vote and all that, they'll be trading on the 1st, which is the first trading day after the Memorial Day weekend. It will be on the Nasdaq. The current symbol IPOE, the SPAC, is on the New York Stock Exchange, so it's moving exchanges. At that time, the shares and the warrants, which everyone's you own, will automatically convert over to the new ticker symbol. There's nothing you need to do. If you still own the original units, if it was the IPOE units, those will automatically break apart into shares and warrants of SoFi upon closing, just so you know what to expect. There is nothing you need to do. Looking at the results, they pretty much knocked it out of the park. First quarter net revenue was $216 million. They had been guiding for $190-$195, so they came in above the high end of their own guidance range.

Moser: Nice.

Frankel: Their earnings were a little over $4 million. They've been guiding for a loss of $5 million to a gain of $1 million. So they blew that expectation out of the water too. On the top and the bottom lines, they really just smashed their own expectations. Their member count is 2.28 million. That's 110% higher than it was a year ago.

Moser: Wow.

Frankel: This is the 7th consecutive quarter where their growth rate has accelerated, and it's pretty impressive. If you remember, a year or so ago, they acquired Galileo. It's the back-end fintech infrastructure platform. They provide third-party infrastructure services. They now have 70 million client accounts, up from 59 million a year ago. The Galileo platform is one of the big biggest parts of my thesis on the company. They originated $2.5 billion of loans in the quarter. A little less than half of that was personal loans and they had some student loans. That was what SoFi was originally founded to do. They expect just under $1 billion of revenue this year, which is pretty impressive. That would be 58% growth over 2020. They're just starting to launch some new verticals, auto loans. They are really just ramping up their brokerage business. They're just getting their banking charter. If you remember, SoFi just acquired a small bank for the purpose of accelerating that process. It's putting a lot of its own capital behind it. So the numbers look pretty impressive, and the shares are up significantly since that was announced. I think it's pretty plain to see why. These numbers were just impressive all around.

Moser: Yeah. It sounds like Anthony Noto has got the business really headed in the right direction. I remember at the time when he left Twitter to go to SoFi, it was a little curious, but now, it makes a whole heck of a lot more sense. He really did seem to get in with the business there at the right time to help them start building up what I think is something pretty special here. It seems like they're on to something big. Including all of the numbers that you've just gone over, the initiatives are leading to a business, and the investors really had to have this one on their radar.

Frankel: I was thrilled when they announced that this was going to be their merger target for IPOE, and I'm not planning on selling my shares. I've added to my position since they announced it. I'm a big SoFi fan. I think they're a very disruptive financial company, and I think they could be the next Square in my portfolio.

Moser: Wow. Well, there's some conviction for you, folks. Listen up because Mr. Frankel has got a track record and it's a pretty darn good one. [laughs] So keep that in mind, Matt, thanks.

Frankel: I got it on Square three days after its IPO.

Moser: That's not bad timing.

Frankel: Technically, I got into SoFi three months before its IPO since it was a SPAC deal.

Moser: Wow. Oh, my goodness.

Frankel: We'll see. I haven't won the SoFi bet yet. That's early stage.

Moser: But it looks like at least things are headed the right direction. Speaking of Square, we've got some interesting news here. Recently, Square is going to be raising some money here. It looks like they are issuing some debt to the tune of $2 billion, Matt, taking advantage of what is still a very low interest rate environment. I think if I see this correctly, senior notes, 2.75% stretched out to 2026, that's one tranche. Then in the other tranche, a 3.5% stretched out to 230 at 2031. $2 billion. To me, they offer up just the standard we can use for general corporate purposes, which may include potential acquisitions transactions. This is something I feel they are going to be investing a lot here into the Square Capital side of the business. I mean, this is the next act for this business, don't you think?

Frankel: In a way, this move left me with more questions than answers, I will tell you why. Square already had $4.3 billion unrestricted cash just sitting on its balance sheet. Why do they need another $2 billion? I feel like if you already have over $4 billion in cash and you decide to raise another $2 billion in cash, you need to give me something more than we're going to use for general corporate purposes. [laughs] You're right, it's a very low cost of capital. That's never really been a problem for Square. I think their last offering, correct me if I'm wrong, was convertible notes at 0% interest. That could just be converted to stock sometime in the future. They've never had a problem accessing low cost capital and this was a private placement to institutional investors. I know they are going to be building up the Square Capital. 

I mentioned so far as a bank, they are putting, I think $700 million of their own capital behind to build out their bank. Square will conceivably be bigger as a bank just because they're bigger business right now. They didn't need more capital for the first Square Capital. I would like some more guidance. Apparently investors agree, by the way, the stock was down 5% right after they announced that. So the market reacted negatively to this and normally if someone's raising low-cost, if Square was raising capital with those interest rates, you said so an average of about 3% and we knew they were going to turn that into something that was going to be at 10% return or something to that effect, of course, the market will be cheering that. When real estate stocks raise low cost capital, it's often cheered by the market. So I think it was the question of why are you raising this? If Berkshire Hathaway, which is what we talked about, has $140 billion or whatever on the balance sheet, if they came out tomorrow and say we're going to raise $20 billion of fresh debt, wouldn't your reaction be why?

Moser: Well, I mean, normally I'd like to know at least what they are trying to do with it and I mean, it's a good point there.

Frankel: I feel like general corporate purposes just don't cut it when you already have that much, you want more.

Moser: No, it's a cop out and it's obviously just the cut and paste statement. But now, you made me think about it a little bit more. I wonder if, I mean, you can't help but wonder if maybe they've got a target or two in across areas for potential acquisition here.

Frankel: That's thought and maybe the latest can't say.

Moser: Maybe.

Frankel: I wouldn't be surprised to see Square go after like and so fire or something like that?

Moser: Yeah. Well, I mean, after everything you just said about being so fay it actually wouldn't shock. Maybe they seem to be very in line with, with leadership. I mean, clearly, Jack and Anthony have a history. I mean, they know each other. I mean, they had a good relationship. So yes, that will be interesting to see.

Frankel: There are a lot of, I mean, Square recently acquired titles, which I didn't see that coming, honestly. But there are a lot of them that I could see going out. Even like Robinhood, I could see Square doing that because it would bring tens of millions of new customers into their ecosystem.

Moser: Yes. Yes it would.

Frankel: I could see that. I mean, just the customer acquisition alone would be worth that acquisition.

Moser: I would imagine, Matt imagine they'd be like hey listen guys, we just want your customers, we really don't want your business or any of your policies. You can keep all that stuff, we just want customers.

Frankel: Or maybe one of the smaller crypto exchanges to help better compete with coin base or something to that, like a Gemini. I could definitely see them going after a company like that. I mean, I hope they are building a war chest to really build out our ecosystem. It's my hope. But the market was not happy with the general corporate purposes type thing because what do you need that for? Come on.

Moser: Well, Matt, let's take a stronger stance than for our listeners here. As we wrap up before we take off, let's take a strong stance for our listeners here with our ones to watch. What is the stock that you are watching this week?

Frankel: We're such a strong stance. I'll give you a Q4. I'm watching two of my favorite SPACs this week and for good reason. The first one is an IPO. That is Social Capital Hedosophia Holdings VI. That's why we just call it IPOF, did not have to say that name. This is Chamath's big SPAC. They raised $1 billion in 2020. Latest rumors, they are going to be taking Equinox public, the fitness company that competes with Peloton. A lot of investors are in [...], which is why IPOF really hasn't moved since that rumor started trickling out. If anything, the stock is down a little bit. But we haven't seen the terms of the deal or anything, and Chamath has been really good about getting a good deal. If I'm investing in a pre-deal stock, I like anything that is at the right price. So I'm curious to see what it does with it. I think that could be a good competitor for Peloton and I'm interested.

Then, Pershing Square (PSTH), Tarantin Holdings, Bill Ackman's SPAC. Ackman said a couple of weeks ago that he hopes to have been talking to "Iconic company. He hopes to have a deal finalized within weeks." This is his words, Ackman's words. So we could hear very soon. A lot of people think it's Stripe. I don't know. I don't know if I'd call Stripe an iconic company. I think that might be Bloomberg, which was the other big rumor, play, the Bloomberg Media Empire taking that public. So I'm watching those two SPACs because I have a feeling the next couple of weeks will be very interesting for both of them.

Moser: Yes, that is really cool. That'll be well worth watching. I'm veering away a little bit from the financial markets here. But a business, I think we really, all investors should at least take note of Autodesk, ticker there as ADSK. Autodesk earnings will be coming out this week, Thursday after the market closes, I believe they will be releasing their earnings report and Autodesk is in 3D design engineering, entertainment software that AutoCAD product with computer aided design that they provide very strong, reputable business it has been at it for a while. Subscription style, subscription revenue accounted for 91% of total revenue now, net revenue retention rate stays in that 100% and 110% range. So they get their customers, they keep their customers, they continue to roll out new services for their customers. It was interesting, the management sees things coming back. So there's a whole reopening. I mean, people getting back to work, businesses opening their doors. They expect the back half of this year to be strong. As such, they're actually considering introducing a potentially consumption-based dynamic to their business model just to be able to accommodate the customers that would need it. 

Honestly, to me, that seems a bit like a Cloudflare type of thing to do. For those who know Cloudflare. They have everything from the usage base to the subscription model and offering what your clients, what your customers need, I think is a very customer-centric thing to do. But they are calling for earnings of $4.93 at the midpoint for the year that puts shares around 60 times earnings today, which are 60 times full-year estimates, which is clearly not cheap, but you are also getting a very strong business that generates a lot of money, a lot of cash, lot of earnings. So I'd be very interested to hear what they have to say, just generally speaking about the business environment and how they see the rest of this year playing out because there's been a lot of good news that's come out since they reported last. So a company I own, a company I recommend and that will be what I'm keeping my eye on this week. But Matt, I think that is going to do it for us this week as always. Thanks so much for jumping on and sharing all of your knowledge.

Frankel: Of course, it's always fun to be here. Hopefully next time I will have a pool that I can actually use and not just look at.

Moser: Well, we'll record from the pool. We could hear ashes and just the sound of joy. We'll be waiting for that. I'm excited for you, man, that will be fun.

Frankel: Me too.

Moser: Remember, you can always reach out to us on Twitter @NFPIndustryFocus, or you could drop us an email at [email protected]. As always, people on the program may have interest in the stocks they talk about and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. Thanks, as always, to Tim Sparks for putting the show together for us. For Matt Frankel, I'm Jason Moser. Thanks for listening and we'll see you next week.