The Consumer Price Index (CPI), which is the widely followed measure of inflation, reached a 40-year high of 8% in 2022. It prompted a significant reaction from the US Federal Reserve, which raised the federal funds rate to a historic low. from 0.25% to 5.50% in just 18 months.
The real estate sector was hit extremely hard by this policy change, as consumers experienced a substantial decline in their borrowing power. The most recent data on U.S. existing home sales (from March) stands at an annualized rate of 4.19 million units, down 37% from the 10-year high of 6 .6 million.
red fin (NASDAQ:RDFN) is a real estate technology company that operates one of America’s largest brokerages. Its business has been struggling since 2022 and its stock is currently trading 93% below its all-time high. However, interest rate cuts could be on the horizon, which would likely boost the housing market — as well as Redfin stock. So here’s why investors might be happy to have bought the dip in Redfin stock.
Redfin has adapted to difficult conditions
In 2022, more than half of Redfin’s total revenue came from a practice called iBuying. This involved Redfin’s RedfinNow division buying homes from willing sellers and attempting to resell them for a quick profit. This works well when home prices rise, but when the market turns, iBuying companies like Redfin risk taking substantial losses on their home inventory.
Redfin shuttered that business in late 2022 as interest rates began to skyrocket, leaving a significant hole in its revenue base. Since then, the company has focused on expanding its service portfolio, which includes a brokerage service, rental marketplace, mortgages and much more. These are generally inexpensive operations compared to iBuying, so they come with a higher gross profit margin.
Redfin had 1,658 master agents in the first quarter of 2024 (ended March 31), a number that has steadily declined over the past two years as the company focuses on efficiency rather than outright volume. These agents helped account for 0.77% of all homes sold in the United States during the quarter. While that seems like a small number at first glance, there are more than 3 million licensed real estate agents across America, so the team at Redfin certainly punches above its weight.
The company said 34% of its sales came from repeat customers during the quarter. This loyalty stems from Redfin’s low listing fee of just 1.5%, which drops to 1% on subsequent transactions. For comparison, traditional industry registration fees are around 3%.
Additionally, in March, Redfin’s mortgage attachment rate hit an all-time high of 30%. That means nearly a third of consumers who purchased a home through Redfin during the month also used the company’s mortgage service. This will help Redfin earn more revenue from each transaction over time.
Here’s What Really Matters (For Now)
Redfin has struggled with slowing revenue growth across its services portfolio over the past year, which was expected given declining U.S. existing home sales. In the first quarter, the company’s revenue increased just 5% from the same period last year, to $225.5 million.
Gross profit, however, jumped 22%, in part because Redfin is reaping the rewards of a new compensation structure in which some agents forgo salaries in favor of higher commissions.
Redfin’s preferred profitability measure – adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) – came in at a negative $27.6 million, a significant improvement from the first quarter. 2023, where it was negative at $63.6 million. This has been Redfin’s main priority during the housing market lull; it must ensure that it does not suffer substantial losses while waiting for the recovery of the real estate sector.
According to management’s guidance for the second quarter of 2024 (ending June 30), Redfin could deliver positive adjusted EBITDA of $2 million, which would be an important step on the path to sustained profitability. In fact, the company estimates it could generate positive adjusted EBITDA for the full year.
Why Redfin Stock is a Buy Now
Redfin’s stock’s 93% decline from its all-time high puts the company’s market cap at just $750 million. Considering it could generate slightly more than $1 billion in revenue this year (according to Wall Street forecasts), its shares trade at a forward price-to-sales (P/S) ratio of just 0, 7.
Redfin stock traded at a P/S ratio as high as 7.7 in 2021, when interest rates were at historic lows. I’m not saying he’ll return to it anytime soon, but it does offer some perspective; Redfin’s valuation is currently trading near the bottom.
According to CME GroupAccording to FedWatch’s FedWatch tool, the Fed is expected to cut interest rates in September and December of this year, which will impact mortgages and increase the borrowing power of most consumers. Although it’s too early to predict what might happen in 2025, the FedWatch tool indicates that further reductions could occur throughout the new year.
As a result, while it may seem counterintuitive to buy a stock that has crashed 93%, it could be a great setup for investors who can hold on for the next few years as the rate situation of interest once again becomes favorable to the real estate market. .
However, buying Redfin stock is not without risk. Its balance sheet only has $107 million in cash. It is therefore absolutely crucial to achieve positive EBITDA in 2024. That said, it has an additional $165 million in loans earmarked for sale, which should eventually be converted into cash and shore up the company’s financial position. I think the risk will ultimately be worth the reward.
Should you invest $1,000 in Redfin right now?
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Anthony Di Pizio has no position in any of the stocks mentioned. The Motley Fool ranks and recommends Redfin. The Motley Fool recommends CME Group and recommends the following options: Short May 2024 $8 calls on Redfin. The Motley Fool has a disclosure policy.
1 Super Stock Down 93% That You Might Be Glad You Bought During the Dip was originally published by The Motley Fool