More than one and a half years after closing its borders with most of Europe including the U.K., South Africa, Brazil, India, and China due to the pandemic, the U.S. opened them to fully vaccinated passengers from November 2021, thus paving the way for families and friends to be reunited, businessmen to finally have a face to face meeting with colleagues and travelers to explore new destinations.
Despite some pandemic uncertainty persisting whereby some U.S. airlines and other businesses reported a pullback in October, the travel sector is bouncing back from 2020 lows with the number of international flight departures steeply inching back up to 2019 levels as shown by the green chart below.
Now, to profit from more international business travel, you can invest in airlines or in payment processors like American Express (AXP) whose revenues were severely impacted from mid-2020 after the cancellation of trans-Atlantic flights (as shown in the pale blue chart below) and has still not yet recovered from its pre-pandemic highs.
Using the ETF option instead of investing individually
Easing restrictions on international travelers should also be beneficial to Discover Financial (DFS), another company that has not regained its 2019 revenue levels, as well as MasterCard (MA) and Visa (V). These two companies, whose share prices have been rising since December, underwent a faster recovery by taking advantage of the move to cashless payment, a secular trend accelerated by the pandemic. This consists of effecting electronic payments instead of using paper notes and has been accelerated by the availability of smartphones using QR (Quick Response) codes. Supported by smartphone devices, the value of global mobile payments is forecast to climb from $1.5 trillion in 2020 to $5.4 trillion by 2026, according to data by Mordor Intelligence.
Now, instead of individually investing in all the companies I have mentioned, there is the ETFMG Prime Mobile Payments ETF (IPAY) option. Incepted in 2015, it provides exposure to 55 stocks in the payments industry, which, through companies like Block (SQ) and PayPal (PYPL), is experiencing a shift from credit card and cash transactions to digital and electronic methods. As shown in the chart above, these two companies have enjoyed the largest quarterly revenue growth at 192% and 24.6% for Block and PayPal respectively.
Going deeper, the fund tracks the Prime Mobile Payments Index and the top ten holdings in its portfolio adding up to 53.29%, up from 48.62% in mid-2019. With its top ten holdings constituting more than 50%, this means that IPAY is subject to more concentration risks, which the fund managers have mitigated to some extent by adding 15 holdings to the 40 the fund included back in 2019.
The volatility impacting IPAY
Still, this has not prevented IPAY to be highly volatile in the last six months as shown in the green chart below with the ETF losing 19.99% of its value. Some analysts tend to associate this fall with the Nasdaq as payment processors that make use of financial technology are also referred to as FinTechs. However, this is not true as the woes of the NASDAQ date back to more recently, or November. The real reasons for IPAY’s fall seem to be related to two of its main holdings: PayPal and Square which both lost over 37% since August, thus dragging IPAY.
Source: Trading View
The market correction impacting these two stocks seems to have been due to their rich valuations, which were 161 (Block) and 61 (PayPal) in August as investors, increasingly aware of the growth-value rationale, have discarded high-valued stocks. Additionally, there are also fears that due to their advanced venture into blockchain technology and cryptocurrencies, these two stocks may be in the sights of regulators who have shown some signs of increasingly wanting to reign in the crypto world.
Lower valuations and timely portfolio adjustment
As per MorningStar, these two stocks are currently at half their August valuations. Furthermore, IPAY’s price-to-earnings ratio is currently at 20.47, which is below the category average value of 25.76.
Additionally, the fund managers who charge an expense ratio of 0.75% for this actively managed ETF have proceeded to a portfolio adjustment from August 25, 2021, to January 8, 2022, which I find to be appropriate. This consisted of increasing the relative percentage of MasterCard, American Express, and Visa shares held as part of total assets, at the expense of Block. These three companies should profit the most from the recovery in international travel as cross-border payments tend to be more lucrative than domestic payments for their payment processing businesses. Furthermore, after having been travel-constrained for the last one and half years and with a lot of savings at their disposal, both tourists and businessmen are likely to spend more.
Pursuing on a cautionary note, there may be some headwind in case there are some interruptions in the momentum for digital payment adoption as seen in parts of Europe last year and in the event that consumer spending growth stalls in 2022 as a result of product prices increasing because of inflation. Hence, volatility may persist and investors may have to hold to the ETF for a longer time. Thus, scanning the industry, I came across the Tortoise Digital Payments Infrastructure Fund (TPAY) offering the same payment processing stocks, but with a lower expense ratio of only 0.4%. However, its three-year, one-year, and one-month price performances have been worse than IPAY.
Consequently, with a better track record, IPAY should profit from international air travel recovery in 2022, while at the same time, its fund managers should partially mitigate any uncertainty due to the emergence of a new and more dangerous Covid variant through holdings which already play key roles in digital transformation of the payment industry.
Disclosure: This is an investment thesis and is intended for informational purposes. Investors are kindly requested to do additional research before investing.