Financial technology -- from digital payment processing to online banking -- is nothing new, but the fintech industry has gained serious momentum in the past decade. Added convenience, new features, and shifting consumer preferences are causing the fast rise of e-commerce, and, along with it, digital money management. Many major fintech companies are expanding revenue at 30%, 50%, or more each year. 

Paying with credit card for online purchase.
Image source: Getty Images.

Many fintech stocks might seem expensive, especially those that aren't yet consistently profitable. Here's some guidance to help you decide if now is a good time to add fintech stocks to your portfolio.

When to buy fintech stocks

When to buy fintech stocks

The short answer is that any time is a good time to buy excellent fintech stocks.

Why? Because trying to time the market is generally a losing battle, and that's especially true when it comes to predicting the fortunes of rapidly growing companies. How many people thought that Amazon (AMZN 0.38%) was too expensive when its stock price first hit $1,000, only to miss out owning a stock whose price has since more than tripled? Attempting to "wait for a better price" is a faulty strategy.

While a company's valuation and performance should certainly be considered, fintech investors should not overly rely on traditional valuation metrics, which may make most fintech stocks look "too expensive." One important lesson that many investors (myself included) have learned the hard way is that growth potential always gets priced in, making that "expensive" stock potentially well worth it.

Let's take fintech-enabled payment processor Block (SQ -1.14%) -- formerly known as Square -- as an example. As of April 2022, Square stock traded for 413 times the company's trailing 12-month (TTM) earnings, a lofty valuation metric by traditional definitions. However, when you consider that Block's revenue increased by more than 86% in 2021, and the company is choosing to reinvest most of its profits back into the business, the high valuations could certainly be justified. Block stock may even be cheap from a long-term perspective.

To decide which fintech stocks to purchase, focus on innovative companies with durable competitive advantages and excellent management teams. Don't focus just on valuation. But if you think that a particular fintech stock might be too expensive, then you might want to apply the concept of dollar-cost averaging (investing incrementally over time at prevailing market prices) to build your position gradually.

You can also consider reviewing the principles of growth stock investing before you choose which fintech stocks to buy.

When to buy fintech ETFs

When to buy fintech ETFs

If you want to profit from innovation in financial technology but don't want your portfolio's performance to be too heavily influenced by the fortunes of any single company, then investing in one or more fintech exchange-traded funds (ETFs) could be a better option.

There's no question that the fintech sector is growing rapidly and that the space has some exciting investment opportunities. Investors are attracted to ETFs, fintech-focused and otherwise, because they enable you to put your money to work in a basket of stocks with just a single investment.

Here are a few examples of ETFs in the fintech space:

  1. The Global X FinTech ETF (FINX 0.04%) is the oldest fintech ETF. The fund allocates its money among 65 different fintech stocks, with top holdings including Intuit (INTU 0.03%), Fiserv (NASDAQ:FISV), Block, and Adyen (ADYE.Y 2.92%), just to name a few. And while its 0.68% expense ratio (that annual fee collected by the fund's managers) isn't exactly cheap, it's on par with those of other actively managed growth ETFs.
  2. The ETFMG Prime Mobile Payments ETF (IPAY -0.22%) has a slightly higher expense ratio -- 0.75% -- and specifically targets the mobile payments segment of fintech. The ETF holds 54 different stocks, with the most concentration in Mastercard (MA 0.33%), Visa (V -0.28%), and American Express (AXP 0.85%). 
  3. The ARK Fintech Innovation ETF (ARKF -0.81%), which charges investors a 0.75% expense ratio, focuses on fintech stocks but takes a somewhat different approach than the other ETFs mentioned. With holdings that include Zillow (ZG -1.21%)(Z -1.33%), Etsy (ETSY 1.74%), and Twitter (NYSE:TWTR), in addition to some of the more traditional fintech stocks (big weightings in Block and Coinbase (COIN -2.39%)), the ARK ETF invests not just in companies typically considered to be pure fintechs. It also focuses on those that could greatly benefit from financial technology.

Risks of investing in fintech stocks

Risks of investing in fintech stocks

No high-growth stocks are without risk, and fintechs are certainly no exception to this rule. 

Although fintech stocks mostly did well during the COVID-19 pandemic due to the surge in e-commerce and the growing popularity of contactless payment methods, fintech stocks could prove quite cyclical if a "typical" recession were to commence. Most fintech businesses depend on consumers and businesses being willing and able to spend money, which can decline rapidly in uncertain times.

It's also worth noting that growth stocks have been some of the worst performers in the recent market downturns, and many of the major fintechs we've discussed in this article have been particularly hard hit. So, if you're a patient long-term investor, it could be a smart time to find excellent fintech stocks at relatively lower valuations. 

There's also a ton of competition in the fintech space, which can make it hard to determine which specific companies will preserve or expand their market shares going forward. And, fintech stocks can be incredibly volatile, even when the stock market and the underlying business are both performing well.

Fintech is one of the biggest growth markets of the 21st century, and it can be a great sector for long-term investors to put their money to work. Conduct due diligence before investing in any specific fintech stock, but remember that it's never a bad time to add the stocks of well-run, innovative companies to your portfolio.

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American Express is an advertising partner of The Ascent, a Motley Fool company. John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Matthew Frankel, CFP® has positions in Amazon, American Express, Block, and Zillow Group. The Motley Fool has positions in and recommends Adyen, Amazon, Block, Coinbase Global, Etsy, Intuit, Mastercard, Visa, and Zillow Group. The Motley Fool recommends the following options: long January 2025 $370 calls on Mastercard and short January 2025 $380 calls on Mastercard. The Motley Fool has a disclosure policy.