The last year of trading has been brutal for financial technology (fintech) stocks, and few have had a rougher go of things than Upstart (UPST 0.60%). The company's share price has plummeted 91.5% over the last 12 months, and it's down approximately 97% from its peak.
With macroeconomic challenges on the horizon potentially disrupting the company's business model, is the formerly high-flying fintech down for the count? Or is this a case where market overreaction has opened the door for patient investors to see strong returns on a recovery? Read on to see why two Motley Fool contributors disagree on what comes next for Upstart stock.
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Macroeconomic headwinds are testing Upstart's business model
Parkev Tatevosian: My bear case for Upstart stock centers around its unproven business strategy of processing loan applications with its proprietary model. It claims its model, infused with artificial intelligence (AI), is superior to legacy methods using consumers' credit scores to rate borrower quality. That may be true, but Upstart's loan portfolio has not yet gone through a down cycle in the economy. That's when folks tend to lose their jobs and default on loans more often.
Interestingly, Upstart aims to be a marketplace for borrowers and lenders to meet. Similar to a platform like eBay (EBAY -0.42%), Upstart wants to make money by bringing lenders and borrowers together without taking on the risk of lending its own capital. The viability of that model is also in question as lenders, perhaps snuffing out an oncoming recession, have reduced funding loans on the platform. That has left Upstart using its own capital to fund some customer loan requests, with management stating it's only doing so because it sees an opportunity to make outsized profits in the process.
Its bank partners originated 188,519 loans in its most recent quarter, down 48% from the same quarter in the prior year. That fall was partly to blame for Upstart's revenue decreasing by 31% in the quarter that ended on Sept. 30. With so much uncertainty, investors would be taking an outsized risk investing in Upstart stock. I believe the potential reward is not worthwhile enough to justify taking that large risk.
The bull case for Upstart
Keith Noonan: As my colleague Parkev notes above, Upstart has not been through a serious economic downturn yet, and there are already signs the business is struggling. The company held its initial public offering late in 2020 against a favorable, low-interest-rate backdrop. Now, the macroeconomic tune has changed considerably, and investors are understandably skittish about what comes next.
It's proving time for the fintech player, and the strength of the company's much-touted, AI-driven loan-connection model will be put to the test.
The appeal of Upstart is that its service can make it easier to get a loan than it is through the traditional FICO score system from Fair Isaac. This allows the company to attract a wider, largely underserved customer base and offer more attractive rates. It's an appealing mission statement, and Upstart says that its AI-powered system has never been more accurate compared to a FICO-based loan-origination model. But the market doesn't seem to be buying it.
I think it's reasonable to anticipate that Upstart's business is in for more rocky performance in the near term, but the market may be underestimating the company. Upstart has a total cash position of $830 million to work with, and it's got some flexibility as long as losses don't spiral out of control relative to current levels. And rather than selling new shares to raise funds, Upstart has actually been buying back stock lately.
If Upstart can survive through economic downturn or an otherwise tough macroeconomic backdrop, its AI and machine-learning models should have the benefit of a wider range of data on what works and what doesn't. It was inevitable that the company would have to persevere through tougher macro conditions at some point, and the business has some big challenges ahead. But Upstart's stock has been pushed down to a level that leaves the door open for big upside if the company shows signs of life, and it could be worth a flyer for risk-tolerant investors.
Should investors buy Upstart stock?
Despite a precipitous valuation pullback, it would be a mistake to classify Upstart as a low-risk stock. The company is facing some serious headwinds in the near term, and it has an uphill battle in proving that its business model can persevere through tough economic conditions.
On the other hand, it's possible that investors who take a contrarian, bullish position with the stock will see strong gains on some valuation recovery. There appear to be mounting challenges on the horizon, but big sell-offs mean that Upstart stock offers substantial massive return potential for risk-tolerant investors if the business can deliver some moderate wins.
