What happened
Tech and fintech stocks rebounded in July after a brutal first half of the year dominated by selling and concerns about the interest rate and macro outlook. The Nasdaq Composite gained roughly 12.4% in July.
Shares of the buy-now-pay-later company Affirm (AFRM 1.12%) gained nearly 49% in July, according to data provided by S&P Global Market Intelligence. Shares of the digital bank SoFi (SOFI 1.82%) gained nearly 20%, and shares of the payments company Marqeta (MQ -2.10%) jumped more than 18%.
So what
Since completing the first half of 2022, investors have continued to focus on future monetary policy by the Federal Reserve, including how much the Fed will continue to hike its benchmark overnight lending rate, the federal funds rate.
Image source: Getty Images.
A key aspect of this has been inflation, which has been at a 40-year high all year long. In early July, the latest reading from the Consumer Price Index (CPI), which tracks prices on a basket of daily consumer goods and services, showed that the CPI rose 9.1% in June on a year-over-year basis, which is higher than economists had been forecasting.
However, a good chunk of that came from high energy and gasoline prices, which we know have been on the way down in July. Investors initially feared the Fed might jack the federal funds rate up by a whole percentage point at its July meeting. But the Fed stuck with the previously expected 0.75% hike, and investors seemed to change their tone regarding inflation and that perhaps it is close to peaking. The sooner inflation peaks, the sooner the Fed can slow its aggressive rate hikes, which have been an issue for tech and fintech stocks all year.
Higher interest rates make safer assets like U.S. Treasury bills yield more, and also reduce the future earnings power of high-growth companies because the cost to do business gets more expensive. For companies like Affirm and SoFi, it also increases the cost of capital to fund their loans. It can increase loan losses. And it can lead to a slowdown in funding, because loan investors are more wary of the economy and will demand higher returns because they now have a higher cost of capital.
For Affirm specifically, there have been concerns that as the economy continues to deteriorate, more of its users will miss payments. There have already been widespread reports that a large chunk of buy-now-pay-later consumers have made late payments. Plus, other fintech companies like Upstart (UPST -0.76%) have said that the capital markets have dried up as investors adjust to the rapidly rising interest rates.
Now what
The Fed indicating that it may be able to slow the pace of rate hikes soon, and the market's belief that inflation has peaked or is very close to peaking, spurred the tech and fintech rally in July.
But I am not entirely sure the economy or market are out of the woods just yet. I think inflation could be close to peaking, but am unsure how big a slowdown the economy might experience. While the labor market is still strong, it often lags behind other economic indicators and could worsen in the coming months.
That's why I'm still not a big fan of Affirm right now. I would prefer stocks like SoFi, which serves a much higher-tier borrower that would likely be more resilient during a more severe recession, and Marqeta, which is focused on helping businesses create custom payment solutions.
