What happened

Shares of e-commerce site Etsy (ETSY -0.86%) were down 2.8% today as of 3:45 p.m. ET. By contrast, the S&P 500 was down 0.3%, and the Nasdaq Composite was flat. What gives?  

So what

Etsy's woes this week are likely two-fold. First up: Inflation. The U.S. Bureau of Labor Statistics showed that the Consumer Price Index (CPI) was up 9.1% in June, a slightly higher rate than expected. With inflation still running hot, the U.S. Federal Reserve is likely to deliver another steep interest rate hike late in July. Higher rates lower the value of risk assets like stocks, shares of Etsy included.  

And second: Consumer sentiment. The health of the consumer is being increasingly linked to inflation. As the prices of basics like food and gasoline soar, households are beginning to cut spending on more discretionary items. Granted, the U.S. Census Bureau's latest retail sales report on May showed purchases on some of Etsy's top categories like clothes and home goods were holding up. However, the economic situation is changing quickly, so worries are mounting that Etsy could be in for more than just a slowdown in revenue growth.  

Now what

Etsy is likely to provide an update on its second-quarter 2022 financial performance in early August, so there's still a few weeks until shareholders know for sure what kind of impact recent events have had on the e-commerce site. However, for what it's worth, it provided an outlook for as much as 11.5% year-over-year revenue growth during its first-quarter report in early May.  

The good news is that despite headwinds for the retail industry, Etsy is a highly profitable business. Even should it fall into revenue contraction mode for a while if consumers tap the brakes, Etsy's profit margins should provide a relative floor for the stock compared to other retail and e-commerce companies that operate on thinner margins. Etsy generated free cash flow (FCF) of $529 million over the last year, a very healthy FCF profit margin of 22%. Shares trade for 23 times trailing-12-month FCF as of this writing.