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2 Monster Stocks in the Making

Matthew Frankel, CFP, The Motley Fool

Despite strong stock market performance through January, there are still some compelling bargains to be found. The financial sector in particular is full of bargains, as it was one of the hardest-hit areas of the market in the late 2018 volatility.

With that in mind, here's a fast-growing fintech with virtually unlimited potential, as well as a lesser-known bank stock trading at a ridiculously low earnings multiple. Both could deliver monster returns for investors in the years to come.

Man surrounded by falling money.

Image source: Getty Images.

My top stock in the war on cash

Fintech company Square (NYSE: SQ) was recently downgraded in a harsh manner by Raymond James. Its analyst said that Square's growth rate is set to slow and that consensus earnings estimates are too high, adding that the stock's fair value is significantly less than the current price. To put it mildly, I couldn't disagree more, and I think that the resulting 10% plunge in the stock has created a buying opportunity.

There are a few reasons I feel this way. First, Square hasn't even come close to capturing its addressable market. The core business' annualized payment-processing volume represents less than 2% of the total U.S. card payment volume, and that doesn't even take international opportunities into consideration. The Square Capital business-lending platform and the Square Installments payment-plan platform both have similar untapped potential. Square's Cash app, for person-to-person payments, could end up being a monster cross-selling machine as well.

Furthermore, Square is doing a great job adding unique product offerings to strengthen its ecosystem. For example, its newly introduced business debit card not only allows Square merchants immediate access to their money but also offers a 2.75% discount when the card is used at other Square merchants. That's a huge rewards rate for a debit card, so I wouldn't be surprised if it entices merchants to "keep it in the family."

The Raymond James analyst is right in the sense that at some point, Square's revenue growth will slow. After all, its adjusted revenue grew at a 56% year-over-year pace in the most recent quarter, and the laws of mathematics can tell you that this isn't sustainable forever. However, as long as Square keeps building its ecosystem, I don't see a growth rate well into the double digits ending anytime soon. And I think analysts could end up being surprised at how effectively Square can monetize the users it already has.

A highly profitable bank stock at 6.7 times earnings

Synchrony Financial (NYSE: SYF) is a bank with two main business activities. It is a credit card issuer, primarily of store-branded credit cards (but it also has the Care Credit healthcare credit card in its portfolio). And Synchrony offers high-yield deposit products such as savings accounts and CDs that pay some of the best interest rates in the industry.

Over the past six months or so, Synchrony has been one of the financial sector's worst performers. There were three main reasons for this (in roughly chronological order):

  • Walmart (NYSE: WMT) announced in late July that it was dropping Synchrony as its co-branding partner, in favor of Capital One (NYSE: COF). This was a big deal, as Walmart made up roughly 13% of Synchrony's loan portfolio. This also raised the possibility that Sam's Club would cease to be a Synchrony credit card partner as well.
  • When the stock market plunged from October through late December on fears of a global slowdown and recession, Synchrony was hit worse than most. The credit card business is rather recession-prone, and store credit cards tend to be particularly sensitive to slowing economies.
  • As if the original Walmart news weren't bad enough, the retail chain filed an $800 million lawsuit against Synchrony in November, alleging that the bank's lax underwriting practices led to steep credit card losses in the portfolio.

Today, these issues are largely settled. Walmart dropped its lawsuit, and Sam's Club will remain a Synchrony partner. Recession fears have cooled off as well during the first month of 2019.

Following a recent rise, Synchrony stock is still down by 27% over the past year, despite 14% loan growth, 11% net interest-income growth, and no meaningful year-over-year increase in delinquencies. In fact, the stock trades for just 6.7 times forward earnings, making it one of the most attractive bargains in the market right now.

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Matthew Frankel, CFP owns shares of Square. The Motley Fool owns shares of and recommends Square. The Motley Fool has a disclosure policy.