Many have tried and failed to predict stock market corrections. Almost no one has ever consistently been able to do it. Just because it's nearly impossible to predict, though, doesn't mean it's difficult for investors to take advantage when it happens. It just means having a list of companies you want to buy when the next sell-off arrives.
The stock at the top of my watch list is PayPal Holdings (PYPL +1.96%). In a sea of companies blending technology and finance, the company's infrastructure is increasingly becoming the payment method of choice for internet commerce.
The past 18 months have cemented the company's position as a leader in the industry. That's just one reason I'm eager to add shares to my portfolio during the next downturn.
Image source: Getty Images.
An early-mover advantage
Visa, Mastercard, and American Express have held an advantage for decades with their payment networks connecting consumers, banks, and merchants. It made it nearly impossible for competition to gain a foothold.
PayPal's internet-based platform was able to circumvent those networks on the internet through end-to-end encryption. Since being spun out of eBay in 2015, the company has grown into one of the largest entities in the financial-technology space.
Through organic growth, acquisitions, and product development, the company has built out services like Venmo and "buy now pay later" (BNPL) for consumers, loans and inventory management for merchants, and checkout for both. It continues to add to the portfolio. PayPal recently launched Zettle, a point-of-sale hardware device that will compete directly with fintech innovator Square.
The platform is going mainstream
It's no secret that the global-payment system is going digital. There are currently 2.8 billion people worldwide with a digital wallet. A recent study predicted that number will grow to 4.8 billion -- 60% of the global population -- by 2025.
The shift picked up steam during the pandemic. By PayPal's own calculations, adoption has been pulled forward by between three to five years.
PayPal has been one of the biggest beneficiaries of that new trajectory. Its bevy of services has users flocking to the platform for transactions. Although it was already putting up impressive growth, many of the company's key metrics accelerated last year.
| Metric | 2020 | 2020 Growth | 2015-2019 Annual Growth |
|---|---|---|---|
| Active accounts |
377 million |
23.6% |
13.9% |
| Total payment volume |
$936 billion |
31.5% |
25.4% |
| Revenue |
$21.5 billion |
20.7% |
17.9% |
| Earnings per share |
$3.54 |
71% |
20% |
| Free cash flow |
$5.0 billion |
29.3% |
20.6% |
Data Source: PayPal.
Management has targeted more than $50 billion in revenue by 2025, pointing to growth of roughly 20% annually. It expects earnings per share to increase 22% per year over that same period.
Those numbers are in line with PayPal's financial performance before last year. That normalized growth rate isn't translating to an historical valuation.
Waiting for a pullback
Investors have bid the stock up significantly over the past year. Shares have climbed more than 250% since the March 2020 lows, compared to 96% for the S&P 500. That has put the company in rarified air. Prior to the pandemic, shares traded between six and nine times sales. The current price-to-sales (P/S) ratio is almost 16.
PYPL PS Ratio data by YCharts.
From 2015 to 2020, revenue more than doubled, free cash flow nearly tripled, and the market capitalization rose roughly sevenfold. Even though the value of the company has outpaced its financial performance, Wall Street seems to think the disconnect will continue.
I'm excited about the portfolio of services the company offers and believe it will continue to be a force in the growing digital-payments space. But shares are nearly twice as expensive as they were before COVID, so I'll be waiting for them to get back to a more normal valuation. Whenever the correction comes, shares of PayPal will be at the top of my buy list.
