Up 155% in 3 months, is Upstart stock a smart buy?


Upstart stocks (NASDAQ: UPST) is an AI-powered fintech with a mission to improve consumer access to credit. The company went public in December 2020 and has already caught Wall Street’s attention – its share price has soared 155% in the last three months alone.

After these big wins, many investors are likely to ask the same question: Is it too late to buy Upstart? In situations like this, it is important to take a step back, put aside the fear of missing out and look at the situation soberly. With that in mind, let’s take a top-down look at Upstart’s business.

Here’s what you should know.

Image source: Getty Images.

Market opportunity

Traditionally, banks make credit decisions based on a consumer’s FICO score, a three-digit number generated from just 12 to 20 data points. This metric is used to assess creditworthiness and helps lenders decide who will qualify for a loan and at what interest rate. But Upstart believes this methodology is flawed, and management cites deficits like this: four out of five Americans have never defaulted on a loan, but less than half of those people have credit ratings that qualify for the lowest interest rates that banks would offer.

To fix this, Upstart relies on artificial intelligence. Specifically, the platform collects over 1,600 data points per borrower and then measures this information against 10.5 million repayment events (and the number is increasing). That way, every time someone makes or misses a payment, Upstart’s AI models get a little smarter and help their banking partners quantify the risk more accurately.

Upstart looked at personal loans first but has since expanded to auto loans. Taken together, these markets represent a $ 719 billion opportunity, but the company plans to enter additional markets in the future (e.g., student loans, mortgages, credit cards) to address the $ 4.2 trillion consumer credit industry .

Competitive position

Upstart is a first mover in the field of AI-supported lending. It was founded in 2012 and the company has been equipping and training its AI models for more than eight years. This head start is a significant asset as it means Upstart has more data and a superior credit product.

In addition, its platform creates value on both sides of the equation. Consumers benefit from higher approval rates and lower interest rates, banks benefit from access to new customers, a highly automated lending process and lower fraud and loss rates. In fact, compared to traditional credit models, Upstart increases approval rates by 27% while lowering the average interest rate by 16%, according to the Consumer Financial Protection Bureau (CFPB).

However, the CFPB released these statistics in 2019, and Upstart’s AI models have improved tremendously since then. In fact, management believes its platform is four to eight times more accurate than traditional credit models. And that regardless of the macroeconomic background. According to an internal study, Upstart’s AI models were five times more predictable of financial distress than credit scores during the COVID-19 pandemic.

Investors take notes while sitting at their computer.

Image source: Getty Images.

Financial performance

By and large, Upstart’s business model creates a network effect. By empowering banks to offer more loans at lower interest rates, Upstart should attract more borrowers to its platform. These borrowers, in turn, should generate new data points, which will enable Upstart’s AI models to quantify the risk even better. And that should further strengthen the ability of its banking partners to admit more borrowers at lower interest rates.

This positive cycle has been a powerful engine for growth. Despite the headwinds caused by the pandemic, Upstart funded 300,379 loans in 2020, a 163% increase from 2018. In addition, the percentage of fully automated loans – i.e. loans without human involvement – reached 70% in 2020 compared to 53% in 2020 2018. And during those two years sales grew by an annualized 53%.

Recently, this growth has accelerated. In the first six months of 2021, Upstart funded 456,610 loans, 375% more than the previous year. Revenue rose 288% to $ 315.3 million, and the company posted positive GAAP earnings of $ 0.51 per diluted share. In short, Upstart’s financial performance has been impressive.

Be worth the risk

When I look at Upstart, the biggest red flag I see is the rating. The company now has a market cap of $ 25 billion and the stock trades at an absurdly high 60 times its revenue. For this reason I advise caution. This is certainly not the time to start investing your savings in Upstart, and if you decide to invest, be aware that you will have a bumpy ride ahead of you.

That being said, Upstart has tremendous market opportunity and a strong competitive position, and I think its disruptive approach to consumer credit could grow to 10x over the next decade. While the stock certainly looks expensive today, there is no guarantee it will look cheaper anytime soon.

So is Upstart a buy? In situations like this – when I am very interested in owning a stock – I tend to ignore the valuation and take a small position. Then I try to build that position by dollar cost averaging over time with the aim of buying at lower valuation multiples along the way.

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Trevor Jennewine has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Upstart Holdings, Inc. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are those of the author and do not necessarily reflect those of Nasdaq, Inc.

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