What happened
Shares of insurance upstart Lemonade (LMND -0.46%) rose 14.2% last week in shortened holiday-week trading. There was no new news from the company to cause the bounce, but punished growth stocks in general rallied after an especially brutal June.
The positive start to kick off July was but a small shred of reprieve for Lemonade shareholders. The stock is down 49% so far in 2022, compared with negative-18% for the S&P 500.
So what
Talk of an upcoming (or possibly already present) economic recession had growth stocks in rally mode last week. In an attempt to tame inflation, the U.S. Federal Reserve has been raising interest rates to cool off the economy. Early data is showing that consumer spending habits are being affected, travel is slowing down, and energy costs are moderating. If inflation eases, the Fed could slow its pace of interest rate increases.
But what's that to do with stocks? Well, recession isn't exactly a good thing for business, but higher interest rates lower the present value of risk assets like stocks. If the Fed is almost finished with its rate increases, that could be one less headwind for Lemonade stock.
Data by YCharts.
Now what
Share price aside, there are still plenty of risks ahead for Lemonade. Its pending acquisition of car insurance company Metromile (MILE) didn't close in Q2 as originally anticipated, probably on ongoing inquiry from insurance regulators. And even should this deal go through as planned, Lemonade and Metromile are two money-losing companies. Plenty of question marks remain.
For now, this remains a high-risk and potentially high-reward investment. Lemonade is still growing rapidly, and expanding into auto insurance with Metromile could help it continue its expansion pace. But it has yet to prove its artificial-intelligence algorithms give it a leg up on legacy insurer competition when it comes to writing policies. With time and larger scale, that could change, but it's a race against the clock -- or, more specifically, a race against a steadily draining balance sheet. Combined together, Lemonade and Metromile had a little over $1 billion in cash and short-term investments on hand as of the end of March, but it will burn through that cushion within a few years if they keep losing money at the rate they have been.
Given these risks, consider keeping Lemonade stock to a very small percentage of your overall portfolio, if you decide to hold it at all.
