Shopify (TSX:SHOP) Stock: Set for a Huge Rally?

Shopify Inc (TSX:SHOP)(NYSE:SHOP) stock has been trending down this year. Here’s why it might be set for a huge rally.

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Shopify (TSX:SHOP)(NYSE:SHOP) stock has been beaten down badly this year. Starting off the year at $1,552, it has fallen all the way to $859 — a 45% decline.

Shopify was one of the tech stocks that soared in the aftermath of the COVID-19 pandemic. The retail closures resulted in a surge in sales at e-commerce shops, like the ones hosted on Shopify. The result was that SHOP’s revenue surged 86% in 2020. That same year, the company posted positive earnings on both a reported and adjusted basis, thanks in no small part to the unexpected revenue surge.

Broadly speaking, the recent developments coming out of Shopify have been positive ones. 2020 and 2021 were record-breaking years for the company, whose growth accelerated in the two-year period. In 2022, growth began to slow down but was still strong: in the most recent quarter, the revenue-growth rate was 41%.

So, we’ve got some good things happening in Shopify land. It’s not entirely obvious why the stock has gone down so much. As you’re about to learn, the reasons have as much to do with the broader markets as with the stock itself. This provides a reason for optimism that SHOP could eventually bounce back from its current slump.

Why Shopify is going down this year

The biggest reason why Shopify stock is going down this year is simply the fact that non-FAANG tech is falling out of favour. Most small- to medium-cap tech stocks are down this year due to a combination of rising interest rates and high valuations. Higher interest rates reduce the present value of future cash flows. The higher the growth rate in the cash flows, the greater the percentage impact of rate hikes. For this reason, high growth tech stocks tend to fall initially during rate-hiking periods. The Federal Reserve and Bank of Canada both intend to keep the rate hikes coming this year, so more turbulence could be coming.

Another reason why Shopify might be going down this year is its valuation. Prior to the current selloff, SHOP was trading at more than 50 times sales. The earnings multiple was well into the hundreds. That’s a pretty steep valuation. And with higher interest rates, high multiples get harder to justify. So, perhaps some kind of correction was justified.

Finally, we have the fourth-quarter earnings release. While revenue and adjusted earnings beat expectations, the GAAP loss was staggering, and way behind expectations. In GAAP terms, SHOP lost $2.96 per share, when analysts were expecting $0.31 in positive earnings. The losses on SHOP’s stock investments weighed on performance, leading to a huge, unexpected net loss.

What could ignite a huge rally?

Having explored some reasons why SHOP stock is going down, it’s time to ask, “What could make it go up again?”

Certainly, a beat on first-quarter earnings would do the trick. Shopify investors are very concerned about revenue deceleration. If first-quarter revenue does not decelerate, then that could be a catalyst for positive momentum.

Another thing that could take SHOP higher would be central banks hiking interest rates less than expected. Stocks are currently priced expecting six or seven more rate hikes. If the central banks ease off, then tech stocks — including SHOP — should rise a bit.

Overall, Shopify stock has plenty of room to run. But a full recovery might take some time. The macro environment right now is not entirely friendly to tech stocks.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Andrew Button has no position in any of the stocks mentioned. The Motley Fool owns and recommends Shopify.

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