It has been a volatile year for fintech stocks, as many are in negative territory for the year. The past six weeks or so have been particularly rough as concerns about inflation, slower economic growth, and a new variant of COVID-19 have all contributed to the volatility.
For some fintech stocks, which had triple-digit percentage returns in 2020, the pullback was inevitable -- and necessary, as many had become overvalued. It also presents a great buying opportunity, as many great growth companies have seen their valuations come down into a more normalized range. PayPal Holdings (PYPL 1.82%) is one of those stocks that looks good right now.
Is PayPal feeling the pinch?
PayPal's stock price dropped 20% in November and is down about 18% year to date. It is trading at about $191 per share after reaching a high of $308 per share in July. PayPal's decline can be attributed to several factors, including the larger macro issues -- COVID-19, inflation -- that hit fintechs, and payment companies in particular, for fear of an economic slowdown.
But there were other concerns, too. A Justice Department investigation into alleged financial incentives provided by Visa to the leading payment networks, including PayPal, spooked investors. The stock also dropped after investment bank Bernstein lowered PayPal's rating from buy to market perform on its slower growth trajectory. Revenue only climbed 13% year over year in the quarter, but that was against record performance in the third quarter of 2020.
The Bernstein analyst cited concerns related to increasing competition, from companies in the growing buy now, pay later (BNPL) space, as well as from Square, Apple Pay, and others. Additionally, as my colleague Rich Smith reported, the Bernstein analyst also cautioned that PayPal could feel the pinch from the large e-commerce companies, like Amazon, which have the size and clout to negotiate better rates with PayPal, and others.
Still a good buy
All these factors are worth watching, but PayPal has some advantages that make it a good buy right now. Its valuation is relatively low, at least compared to its competitors. It's trading at about 45 times earnings, which is down considerably from where it was over the summer and is in line with historical averages. Its forward price-to-earnings (P/E) ratio drops to about 34 over the next 12 months, which is low relative to its competition.
Also, its financials are strong, as the company has a steadily increasing profit margin, which is currently about 20%, and some $5 billion in free cash flow. That cash flow has allowed the firm to make investments and acquisitions to stay ahead of the competition, like its most recent purchase, Paidy, a buy now, pay later company that gives PayPal a presence in this growing market. PayPal has also been rumored to be in the market to buy Pinterest, although those rumors were quelled, and there's been talk of PayPal launching a stock trading platform.
PayPal also just inked a deal with Amazon to allow shoppers to pay with PayPal's Venmo at checkout starting in 2022. This is a huge deal for PayPal, as Venmo has been growing rapidly, with over 80 million users -- up double from 2019 and up eightfold from 2017. This increases the addressable market significantly.
The key advantage is this massive network that PayPal has, with some 430 million active PayPal accounts expected at year-end and more than 80 million Venmo users. This fall, PayPal rolled out a new PayPal "super app," where all of its capabilities -- payments, digital wallet, savings, bill pay, direct deposits, cryptocurrency services, BNPL, and everything else -- are in one place. This will help it build cross-selling capabilities and better lock its users into its growing ecosystem.
So while challenges exist, PayPal has the network, longevity, scale, and capital to remain at the forefront in the payments business -- and this recent sell-off makes it a good time to buy this growth stock.