The meme-stock craze that took over markets in the spring of 2021 boosted the prices of dog-inspired tokens like Dogecoin (DOGE -6.82%) and Shiba Inu (SHIB -7.36%) to new heights. But as their popularity dwindled, they came crashing back down. With rising interest rates and inflation driving investors to less speculative assets, neither may reach their previous highs again.
Investors looking for serious gains are better off putting their hard-earned savings into high-quality companies that have the potential to grow substantially in the years ahead. Here's why Block (SQ -1.57%), the fintech business formerly known as Square, is a top candidate for your portfolio in 2023.
Skip the meme tokens
It might be very tempting to buy Dogecoin and Shiba Inu, which are both down roughly 90% (as of this writing) from their all-time highs, in the hopes that the entire cryptocurrency market will bounce back and their prices will recover in 2023. But this would be akin to gambling, as opposed to real investing, and it's a surefire way to lose your money.
In the world of crypto, an industry that now has nearly 22,000 different projects, neither Dogecoin nor Shiba Inu have any real competitive advantages. Dogecoin strives to be a decentralized payments network, but that pits it against Bitcoin, the world's oldest and most valuable cryptocurrency. Shiba Inu, on the other hand, was created to introduce functionality, a trait Dogecoin lacked. But this means Shiba Inu competes with Ethereum, which is a losing proposition.
While they may have attracted a strong community of supporters, particularly from well-known billionaire tech businessmen like Elon Musk and Mark Cuban, neither crypto has shown any real promise. As a result, they are best avoided.
Riding the digital payments wave
Investors are much better off looking at Block, whose shares have risen 369% since the company's initial public offering in November 2015. The digital payments leader recently reported third-quarter financial results that exceeded Wall Street forecasts, which seems like a rare feat in today's market environment. Gross profit increased 29% year over year for the Square segment to $783 million, and it jumped 51% for Cash App to $774 million.
Providing invaluable services to both merchants (such as point-of-sale solutions and management of loyalty programs) and individuals (such as direct deposit and stock investing) allows Block to benefit from switching costs. These users are unlikely to transition to a rival financial institution once their sensitive information and bank accounts are locked in with one provider.
Plus, Block benefits from network effects. Its two ecosystems, Square and Cash App, feed off each other's growth. More Square merchants increase the value of being a Cash App customer, as the latter can pay directly with their balances. And more Cash App customers, of which there are currently 49 million monthly active users, attract more merchants to the Square seller ecosystem. Furthermore, integrating Afterpay, the buy now, pay later service, with Block's two segments easily strengthens the overall company by further deepening the connection between Square and Cash App.
Consider the economy
Sure, the macro picture is uncertain right now, with inflation still surging and the Federal Reserve continuing to push rates up. And this has a negative impact on Block's business, as consumers may cut back on spending in tough times, leading to lower transaction revenue. But this hasn't had too much of an effect on Block, as we can see in the latest results. By comparison, PayPal, a major competitor, only increased its revenue 10.7% year over year in Q3.
Although Block's management team, led by founder and Chief Executive Officer Jack Dorsey, doesn't provide much guidance, they do expect profitability to improve next year by continuing to "moderate that expense growth to drive increased operating efficiency." Wall Street analysts remain incredibly optimistic, as they predict Block will increase revenue at a compound annual growth rate of 18.9% between 2022 and 2027, with net income soaring 58.5% on a yearly basis during the same time.
And if we zoom out and focus our attention on the big picture, we'll see just how great Block's potential is. According to Chief Financial Officer Amrita Ahuja, Block only controls about 3% of a market with a potential of $190 billion, based on gross profit. There's a sizable runway to attack in 2023 and beyond.
With the stock down more than 60% in 2022 and now selling at a price-to-sales multiple of about 2, which is close to the cheapest valuation Block has ever traded at, investors should ignore the meme tokens and scoop up shares in this wonderful business.
