1 Stock down 91%, which could turn parabolic if the Fed cuts rates

All eyes will be on Federal Reserve Chairman Jay Powell when he announces what the Fed plans to do with interest rates during its September 17-18 meeting. It’s a foregone conclusion that there will be at least one rate cut, but no one knows by how much. As a result, some consumers may delay shopping until after rates start to drop, which could benefit a few companies massively.

One stock that could go parabolic if the Fed cuts rates is upstart (UPST -7.65%). Upstart’s software is an alternative to FICO scores and is used primarily in personal and auto loans, two areas that haven’t seen as much demand since interest rates have risen.

Upstart uses AI to assess creditworthiness

Upstart’s alternative lending model evaluates borrowers differently than a credit score. It uses alternative factors not normally used in FICO scores to better assess a borrower’s creditworthiness. It also uses artificial intelligence (AI) to do this, which can help eliminate loan approval bias. The results are quite obvious: Upstart has 53% fewer defaults than a traditional model at the same approval rates.

Upstart has a fantastic model, but the problem is that it is not in control of its own destiny. Because its business is tied to the interest rate environment, it can grow and explode with those rates. Just a few years ago, it had an annual revenue rate of $1 billion. Now, the figure is about half that amount.

UPST Revenue (TTM) data by YCharts

But those low-earnings quarters are almost the inverse of the effective federal funds rate, so that begs the question: Can Upstart return to prominence if the Fed cuts rates?

Upstart’s business did not fare well with higher rates

The problem with Upstart is that its business needs booms to survive. As mentioned above, Upstart’s lending expertise is focused on the personal and auto loan space. These rates are often significantly higher than the federal funds rate because of the increased risk of these loans that the lender assumes. As a result, when rates are as high as they are now, there is little demand. However, if the Fed lowers interest rates, consumers may be more likely to accept certain loans if they can get a lower rate than before.

Unfortunately, Upstart has become deeply unprofitable since its business sank due to high interest rates.

UPST Profit Margin Data (Quarterly) by YCharts

Although the company’s revenue has remained fairly stable, it has done little to become more efficient and cut its losses. This is a big red flag to me because it shows that they need to have these low interest periods to survive.

This is a sign of a company that is not built for the long term. If Upstart was marginally profitable in bad times, but massively profitable in good times, I’d reconsider, but that’s not the case.

However, that doesn’t mean stocks won’t see significant gains as the Fed cuts rates. There is likely pent-up demand for personal and auto loans as consumers may have avoided taking out loans due to higher rates than recently. As a result, the Upstart business will likely take off, and the stock could follow suit.

Unless management makes some changes from the past boom, Upstart could struggle again years down the road. The stock could be bought here if it turns for the better. But if it sticks to its old ways (which it has in recent quarters), it could repeat its problems in a few years.