Upstart (UPST 2.76%) was a huge winner in 2023, as shares soared by 209% over course of the year. This gain crushed the Nasdaq Composite Index. Investors are hoping that the good times will roll.
But for context, shares are still sitting more than 90% below their peak price. That reflects the huge losses Upstart shares suffered in 2022. So with hopes that the stock could climb back to its former heights, some investors might have their eyes on the business as a potential portfolio addition right now.
Is it a good time to buy this fintech stock? Here's what investors should know.
Finding a use case for artificial intelligence
Recognizing that the traditional FICO-based tools lenders were using to evaluate would-be borrowers' creditworthiness were flawed, Upstart's founders created a solution. The company's platform analyzes 1,600 variables about loan applicants using artificial intelligence and machine learning to more accurately assess default risk, allowing lenders to approve loans to more customers while limiting their overall risk.
The result is a win-win-win situation. Upstart generates revenue from fees whenever its platform helps to originate a loan; its 100 (and growing) lending partners benefit from targeting a larger customer base; and borrowers -- particularly those whose low FICO scores are poor reflections of their actual default risk -- get increased access to credit.
Since its founding, Upstart has helped to facilitate more than $33 billion worth of loans. But the management team sees this as a drop in the bucket compared to its true long-term opportunity. The annual origination volume of personal, small business, auto, and home loans in the U.S. is roughly $4 trillion. In theory, Upstart is staring at a gargantuan total addressable market.
If even 1% of loan volume -- a tiny sliver in the grand scheme of things -- finds its way to Upstart's platform, then its revenue could skyrocket, and shareholders would be rewarded.
Upstart is a risky business to own
Despite the positive attributes of this business, Upstart is not without its risks. The most important one relates to just how sensitive the company is to macroeconomic factors.
During 2021, a period of historically low interest rates and loose monetary policy, Upstart reported revenue growth of 264% and net income of $135 million. Of course, in those conditions, borrower demand for loans was robust. It's no wonder shares hit an all-time high in October of that year.
Since then, it's been a completely different story. Quarterly revenue peaked in early 2022, then began to sink as interest rates rose. Through the first nine months of 2023, revenue was nearly cut in half on a year-over-year basis. And Upstart posted a total net loss of $198 million during its last three reported quarters.
This company is heavily exposed to what happens with interest rates, and that's worrying. As an investment, it should be viewed more like a bank and less like a typical tech company.
The counterargument to Upstart being a cyclical enterprise is that recessions are generally short-lived, while expansions tend to last much longer. That might tempt investors to attempt to buy this stock before a period of economic growth starts, and to attempt to sell before a downturn gets underway. Doing this successfully on a consistent basis could lead to huge returns.
However, this sort of market-timing strategy is impossible to do consistently, and investors who attempt it almost invariably do harm to their portfolios' long-term returns.
Those who believe in Upstart's prospects over the very long term might consider buying its shares now. But I'm not one of these people. In my view, in 10 years, there's a not insignificant chance that this company won't exist. It has yet to prove its ability to grow revenue and generate positive earnings throughout a full economic cycle, which is a huge concern for me.
Based on this, I have no problem passing on Upstart stock right now.
