What happened
It has not been a good week if you are a fintech investor, with the sector getting beaten bloody on the discovery of the new omicron coronavirus variant, and on worries over a higher and longer-term inflationary environment.
Shares of buy now, pay later company Affirm (AFRM -0.84%) traded roughly 23% lower this week as of 2:47 p.m. ET today. Shares of the artificial intelligence loan originator Upstart Holdings (UPST -0.02%) traded nearly 19% lower, shares of the one-stop-shop financial services company SoFi Technologies (SOFI 0.21%) traded more than 19% lower, and shares of the digital marketplace bank LendingClub (LC -0.45%) traded nearly 20% lower.
So what
The discovery of the omicron variant has hurt the broader market but seemed to really hammer fintech stocks in particular. These companies are in the business of making loans, which can be very tied to the economy. Obviously, if there were the need for further lockdowns, that could erode the credit quality of the borrowers on these loans and could dry up demand in what was supposed to have been a promising economy in 2022.
Image source: Getty Images.
The double-whammy for the sector came when Federal Reserve Chairman Jerome Powell told Congress he would "retire" the use of the word "transitory" when discussing the current higher levels of inflation, meaning he thinks it could be here to stay. The Fed has also indicated that it will potentially look to speed up the tapering of its large bond-buying program, implying that interest rate hikes are looking more like a certainty in 2022. Bank of America is now projecting the Fed to hike its federal funds rate three times next year. This is in stark contrast to economist predictions at the beginning of the year, which were that rate hikes would not occur until 2024.
While higher rates mean higher yields on loans that charge interest, they also make the cost of borrowing higher for the consumer, typically leading to higher default rates, which in general can be higher in some of the loan segments these fintech companies operate in. Just a few months ago, a new study by Credit Karma showed that one-third of U.S consumers who have tried buy now, pay later products have missed one or more payments. Now, most buy now, pay later lenders don't charge interest, but if everything else in a borrower's life is getting more expensive, that doesn't bode well for them paying down these loans.
Higher interest rates are also bad for fast-growing companies because it makes the cost of doing business more expensive and hurt earnings growth. Several of these fintech companies had risen to such high valuations that any blow to growth was bound to send their stocks and valuations much lower.
Now what
For some of these fintech companies, I think the market simply ran up their valuations too fast and got ahead of itself.
UPST PS Ratio data by YCharts
As you can see, not too long ago, both Upstart and Affirm were trading at 40 times revenue and Upstart even got as high as 60 times revenue, however briefly. Now, valuations look better, albeit still high for some.
I continue to throw my full conviction behind LendingClub in particular, which in my opinion has been completely misunderstood and mistreated by the market. As I've noted in the past, the company is now putting up similar numbers as SoFi and Upstart and not getting valued even in the same ballpark as either.
Ultimately, with the potential for difficult market conditions in 2022, I would focus on valuation. These companies all have great potential, but there is still a lot to execute on and a lot to prove.
