The early days of the pandemic served as a transformational moment for the financial services industry. For decades, financial services firms tended to eschew new technology, preferring to stick with tried-and-true solutions. In the world of high finance, mistakes are costly, so a proven workflow is often preferable to a new innovation.
In 2020, however, the world shut down. Companies couldn’t rely on traditional bank branches, paper-based documentation solutions or brick-and-mortar loan offices to offer their finance products. This forced the industry to sprint toward all sorts of digital solutions that had previously been afterthoughts.
Valuations exploded across the financial services industry, as investors imagined a world with more efficient and profitable lending products.
But in 2024, the shine has worn off of this idea. Lending is a hard business — be it from physical offices or entirely online — and simply putting things into an app doesn’t guarantee a windfall.
These three financial services companies saw their stocks soar during the pandemic but have since crashed as their business models failed to play out. And, unfortunately, for all three, things are bound to get even worse going forward.
Block (SQ)
Block (NYSE:SQ), the payments and financial services company formerly known as Square, is a wide-reaching business. It does everything from payment processing to money transfers, cryptocurrency trading and it even operates a music streaming service.
SQ stock rose from $80 to a peak of around $270 during the early days of the pandemic as investors enthused about the potential for rapid growth in the company’s digital payments processing business. However, that failed to materialize at nearly the rate bulls had expected and shares collapsed in value.
Since then, Block has seemingly started throwing spaghetti at the wall, trying to hit upon some vertical that will unlock faster growth. Despite CEO Jack Dorsey’s numerous efforts, very little has stuck so far. With slow growth and shares trading at more than 100 times trailing GAAP earnings and more than 60 times enterprise value to EBITDA, Block’s valuation remains incredibly stretched.
Some investors may see the huge decline in SQ stock and think there’s a bargain here. Insiders seemingly hold a different view.
Cash App Lead Brian Grassadonia, Chief Accounting Officer Ajmere Dale and CFO Ahuja Amrita are among the Block executives who have been selling stock in large quantities over the past quarter. Furthermore, longtime Block supporter Cathie Wood is now reducing her stake as well.
Upstart (UPST)
Upstart (NASDAQ:UPST) is a fledgling financial services company focused on consumer lending. Shares skyrocketed in 2021 during the unprofitable growth companies boom, as investors extrapolated high top-line growth rates, while showing less concern about earnings or underlying business quality.
As it would turn out, it’s quite easy to grow a lending business, you simply make loans of dubious quality. As Upstart’s products matured, counterparties began to have increasing doubts about the nature of Upstart’s loans.
Upstart found it hard to fund its loans, and its revenues collapsed as it had to reduce lending capacity. Specifically, from a peak of $842 million in 2022, revenues slumped to $514 million last year and might even decline several percentage points more in 2024.
Upstart has generated a bunch of buzz from its claims around having a superior AI-driven lending model. This allowed UPST stock to surge once again in 2023 during the early wave of the AI boom.
However, the questionable nature of Upstart’s loans quickly extinguished any ensuing AI hype around the stock — it’s one thing to use experimental AI in creative endeavors and another to apply it to a field like finance, where mistakes are exceptionally expensive.
Upstart is nowhere near profitability. In fact, it has not even generated positive EBITDA in recent quarters. And hopes for a turnaround further dimmed with the news that the Securities and Exchange Commission has subpoenaed Upstart given questions around its AI lending practices and disclosures.
Affirm (AFRM)
Affirm (NASDAQ:AFRM) is another financial services business focused on consumer lending which is facing massive problems.
Many investors categorized companies like Upstart and Affirm as financial technology “FinTech” companies that were worthy of high valuations. But at the end of the day, a company that lends money is a bank by another name, and banks tend to trade at low valuation multiple. And even that’s generally only if the bank is profitable.
That may be a low bar, but it’s one that Affirm is nowhere near reaching.
Over the last 12 months, Affirm generated a net loss of $679 million on revenues of just $2.1 billion. This is a massive loss for a lending company. It’s important to consider that there’s no real upside on the right tail of a loan. Either the customer pays in full and on time or not. Affirm seemingly simply isn’t charging enough interest on its loans to recoup its costs.
In the middle of a large economic expansion, Affirm has been blessed with perfect economic conditions for subprime lending. Yet its business model is hemorrhaging money, in a time that should be a golden age of consumer lending.
Indeed, other publicly traded consumer lenders have been thriving over the past couple of years. For example, credit card giant Capital One Financial (NYSE:COF) shares are up about 31% over the past year and are near all-time highs.
What happens to Affirm when the next recession inevitably hits, and its unproven buy-now-pay-later loans are tested by harsher economic fires? Affirm is already losing boatloads of money today. If a significant number of its loans turn into “buy-now-pay-never” situations, the company may sink altogether.
On the date of publication, Ian Bezek did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.