(CapitalWatch, Nov. 8, New York) Shares of finance and trading companies that rallied during the pandemic have plummeted this year, but some analysts are confident that now is the time to buy.
As inflation, rising interest rates, and geopolitical conflict hammer everyday people, finance companies are struggling to collect on loans or make a profit.
When economic conditions are poor, consumers make fewer deposits and are more likely to default on various kinds of loans.
Dumping finance stocks when just about everyone is experiencing financial issues seems like a logical choice. Taking a chance on fintech companies that have only operated in a supportive economic environment is even riskier than a traditional bank.
Although staying away might seem like a no-brainer, many analysts disagree.
There's little hope for any short-term gains from finance and trading companies currently, but firms with solid trajectories could come out on top long term.
Let's take a close look at Ally Financial, Upstart, and Robinhood to consider the near-term opportunity.
Ally Financial (NYSE: ALLY) stock has plummeted this year after hitting record highs in 2021. Shares have fallen 48% in the last 12 months and 47% so far in 2022.
The company failed to meet all expectations in its third quarter earnings report.
High interest rates are cutting away at its net interest margin, which is the difference between the interest Ally earns on loans and what it pays to depositors. Ally's NIM shrunk by 0.23%, and it's expected to narrow even more by 2023.
In the third quarter, Ally reported an 80% increase in the value of auto loans that are unlikely to be collected, which could worsen credit conditions for borrowers.
With consumers' spending power completely squeezed by inflation, many are inevitably struggling to keep up with auto loans. Ally's average auto loan yielded 7.29% in the third quarter of 2022, up from 6.62% for the same period last year.
Ally is limping along as the U.S. continues edging towards recession, but its current problems will inevitably pass.
The company also reported that it raised its reserve to $3.6 billion to make up for future loan losses. Ally's consumer banking business is also thriving, with retail deposits rising by $2.7 billion from the second quarter.
Upstart Holdings (Nasdaq: UPST), a fintech firm focused on loan underwriting, rose to popularity during the pandemic amid more positive credit conditions and under a friendlier Fed. The company originated around $11.75 billion of originations in 2021 and took the top market share for the personal loan sector.
After a blowout year, however, Upstart has since lost its momentum and funding. Upstart at one point secured a $30 billion market cap in 2021, but now it's fallen 88% so far in 2022. The company laid off 140 employees last week, and its stock price is sinking in anticipation of a negative third quarter report.
As an industry disruptor, the current economic chaos is a litmus test for the industry disruptor's algorithmic risk-determination framework truly is better than the traditional credit rating system.
Upstart took its sector by storm in recent years and has the potential to continue succeeding.
The company is clearly facing an uphill battle, however, considering it cited a "reduction in the volume of loans" for one reason it laid off 140 employees last week.
Robinhood Markets (NYSE: HOOD) was another pandemic-era superstar, but this fintech firm has found itself in a relatively positive position after releasing its earnings report last week.
The retail trading platform was struggling as much as one would expect under current conditions. Its shares hit a record low in June, but it saw an 80% rally from that over the weekend.
Robinhood was previously dropping for the same reasons other finance firms were. But its earnings report showed that higher interest rates actually benefit the company by allowing it to generate higher revenue with margin loans. This is known as a cash sweep, which can profit the brokerage and keep a portion of the interest income it creates for users.
Although the company reported some good news, Robinhood is also seeing stagnant user growth, and the users it does have aren't doing well.
Robinhood's assets under custody declined 32% year over year in its most recent report, but average revenue per user fell just 3%.
Analysts say that Robinhood's performance seems unsustainable. As a platform built for short-term traders who prefer gambling to long plays, Robinhood's base isn't diversified enough for sustained growth. And the very demographic of traders drawn to the platform is likely going to turn to less expensive trends amid the market chaos.
The overall performance of financial institutions leads some analysts to believe that these companies will be able to handle short-term losses.
Wall Street analysts' average rating for ALLY is "buy," the general consensus among analyst ratings for UPST is "hold," and HOOD has experts torn between "buy" and "hold."
Financial stocks across the board at this time seem like a "definitely hold, maybe buy."
Although analysts are confident based on company performance, there's a large risk that buying in now won't provide a significant return.
These companies have demonstrated a successful track record in more favorable economic conditions. But newer firms have never experienced a similar economic climate to what they're currently facing.
Fintech companies are in a particularly tough spot. If companies can survive the current economic slump, they'll likely perform well. But since so many of fintech's business models have not had to weather a recession like financial institutions of the early aughts, there's no way to tell if they will.
Investing in fintech now would be a rather uncertain bet, and it's going to take an indeterminate amount of time to see whether it pays off.
Information provided is for educational purposes only, may be incomplete or out of date, and does not constitute financial, legal, or investment advice.