Many investors have likely heard the mantra: "Bulls make money, bears make money, but pigs get slaughtered." In 2021, the bulls became pigs when they ignored the looming threat of inflation and rising interest rates. In 2022, the bears profited from that greed as the S&P 500 and Nasdaq declined 19% and 33%, respectively.
But today, the winds seem to be blowing in the opposite direction again. The market's valuations are cooling off, and the macroeconomic headwinds are arguably subsiding, but plenty of stocks are still heavily shorted -- which could make them potential candidates for big short squeezes.
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Two such stocks are the online lender Upstart (UPST 0.79%) and the plant-based meat producer Beyond Meat (BYND -0.17%), which still had 31% and 35% of their outstanding shares, respectively, being shorted as of Jan. 12. Could either of these hated stocks be lifted by a massive short squeeze this year?
How could Upstart drive away the bears?
Upstart's artificial-intelligence (AI) powered lending platform helps banks, credit unions, and auto dealerships approve loans with nontraditional data points like a person's education, grade-point average, standardized test scores, and work history. That unique approach enables lenders to serve customers with limited credit histories.
Business thrived as low interest rates convinced lenders to approve more loans, and their customers to take on more debt. In 2021, its revenue soared 264% to $849 million as its net income skyrocketed from $6 million to $135 million. But in 2022, analysts expect its revenue to dip 2% to $830 million as it racks up a net loss of $140 million.
That abrupt slowdown can be entirely attributed to inflation and rising interest rates. Inflation is causing consumers to rein in their big-ticket purchases, while rising interest rates are making loans less attractive.
Those factors also prompted Upstart's lending partners to offer fewer loans on its platform. So the company started funding some of those loans from its own balance sheet (which increased its own leverage) to offset that slowdown.
It's easy to see why the bears shorted Upstart: Its growth would decelerate and its losses would widen as long as interest rates kept rising. But if inflation is reined in and interest rates stabilize, Upstart's growth could accelerate very quickly and spark a short squeeze.
At two times next year's sales, Upstart's valuation seems to already fully reflect its near-term challenges, so there might not be much downside potential left for the bears.
How could Beyond Meat crush the shorts?
When Beyond Meat went public in 2019, restaurants, retailers, and consumers were all eager to try out its plant-based meat products. But in 2020, its growth decelerated as the pandemic caused restaurants to temporarily close. Retailers also lost their appetite for its products, which cost significantly more than animal-based meat, as the economy cooled off.
Beyond Meat initially expected its sales to recover in 2021 and 2022. But that recovery was disrupted by intense competition and rising inflation, which caused many consumers to stick with cheaper traditional meat.
As a result, its revenue only rose 14% to $465 million in 2021, decelerating from its 37% growth in 2020 and 239% growth in 2019. And it's bracing for a 9% to 14% decline in 2022.
Its net loss widened from $53 million in 2020 to $182 million in 2021 as it tried to liquidate its excess inventories at steep discounts. An ill-advised joint venture with PepsiCo to produce plant-based jerky exacerbated that pressure.
That's why the bears shorted Beyond Meat: It seemed like a fad stock without a sustainable business model, and it lacked a meaningful moat against tough competitors like Impossible Foods, Tyson's plant-based meat division, and Kellogg's Morningstar Farms.
But with its stock trading at less than three times this year's sales, the bears should think about what might happen if inflation cools off, consumer spending climbs, and the market's appetite for plant-based meat products rises. Beyond Meat still has an early mover's advantage in this space, so all those tailwinds could enable it to generate stable growth again.
The more likely short squeeze: Upstart
I wouldn't buy either Upstart or Beyond Meat right now, especially when so many other high-quality stocks are on sale. But I think Upstart has a better shot at squeezing out the bears for two reasons: Its core business is healthy, and its problems have largely been caused by rising interest rates. Once those rates stabilize, it could attract more lenders and consumers again.
Beyond Meat's problems are deeper and more existential. Its business isn't doomed yet, but it will likely continue to bleed out if restaurants, retailers, and consumers continue to shun plant-based meat. Until that trend reverses, it will likely remain an upopular fad stock for the bulls and a popular target for the bears.
