Persistent inflation and aggressive interest rate hikes have convinced many investors that the economy is headed for a recession, and that fear has weighed on the stock market. The Nasdaq Composite is currently down 22% from its high, which puts the widely followed index in bear-market territory.
From a short-term perspective, that reaction is quite logical. Rising prices will eventually put pressure on consumer spending, dampening demand for discretionary items and slowing economic growth. But inflation is ultimately temporary, and the market has inevitably rebounded from every past downturn. That means the current situation is actually a good time to buy stocks.
With that in mind, PayPal Holdings (PYPL 0.34%) is currently 68% off its high, and the stock looks too cheap to pass up.
Strong market position
The PayPal brand is synonymous with digital payments. It operates a two-sided platform, offering products that engage both businesses and consumers. That distinguishes the company from many other payment processors, allowing PayPal to leverage consumer data to more effectively prevent fraud and surface shopping deals that drive sales for merchants.
On one side of the ecosystem, PayPal enables businesses to accept payments, both online and in stores, and it provides adjacent solutions for risk management, financing, and point-of-sale systems. On the other side, PayPal offers payment cards and digital wallets that enable consumers to spend and save money, invest in crypto, discover shopping ideas, and earn rewards.
The broad scope of its two-side platform has helped PayPal become the most accepted digital wallet in North America and Europe. Better yet, the company has built a trusted brand, and that reliability boosts conversion rates by 34% compared to other checkout options. That makes PayPal a particularly compelling business partner, and the company has recently won partnerships with Shopify, DraftKings, and Roku.
Turning to the financials, PayPal grew active accounts 6% over the past year -- management expects that figure to accelerate in the coming quarters -- and transactions per active account increased 12%, signaling an increase in engagement. As a result, revenue rose 9% to $6.8 billion and free cash flow soared 22% to $1.3 billion.
Big market opportunity
PayPal puts total addressable market (TAM) at $110 trillion, but the company handled just $1.3 trillion in total payment volume over the past year, which represents about 1% of its TAM. That leaves plenty of room for future growth, and PayPal should benefit from several catalysts in the coming years.
First, online shopping is becoming more popular, and that trend will naturally drive growth in digital payments. Second, the number of digital wallet users is expected to double between 2021 and 2025, according to Juniper Research. At the same time, digital wallets will continue to take market share from cash and payment cards in North America and Europe, both in stores and online, according to data from Worldpay. And third, PayPal's management team is executing on a strong growth strategy.
In particular, the company plans to focus on three opportunities: the PayPal and Venmo digital wallets, PayPal Checkout, and Braintree, a more customizable checkout solution aimed at bigger e-commerce businesses. Management believes that strategy will drive operating margin expansion that starts in the fourth quarter of this year and continues through 2023.
In short, PayPal benefits from a strong market position and a massive market opportunity, and profitability is poised to accelerate in the coming years. Additionally, shares currently trade at 4.2 times sales -- a monster discount compared to the five-year average of 42.8 times sales. That's why you'll regret not buying this growth stock on the dip.
