It has been a difficult year for growth stocks, as a slowing economy, inflation, and higher interest rates have put up barriers to their ability to grow. Growth stocks, as measured by the Russell 3000 Growth index, are down 22.6% year to date while value stocks are only down 9%, as measured by the Russell 3000 Value index.
But there are some growth stocks that have beaten the broader market indexes in 2022 and will likely continue to do so for the long term. One of them is Visa (V -0.09%).
Outperforming during bull and bear markets
The stock market will surely return to a bull market status at some point — it always does. But Visa is a rare growth stock that has been able to maintain market-beating returns during downturns as well as bull markets.
This year, for example, the payment processor is only down 3% as of Nov. 16, while the S&P500 is down about 16% and the Nasdaq Composite is off some 28% year to date.
If you expand that time horizon, the stock has returned 19.4% on an annualized basis over the past 10 years as of Nov. 16, which beats both the S&P 500 and the Nasdaq Composite, which have returned 11.1% and 14.5%, respectively, over that same period.
So, what is the key to Visa’s market-beating success? There are few major reasons.
Visa’s keys to success
One big reason Visa beats the market so often is because of the competitive advantage it enjoys as a duopoly with MasterCard in the credit processing space. There are other credit providers, but they have their own networks, on which they are also lenders. Visa is not a lender — it simply processes transactions on its massive network that are funded by other banks and lenders. It makes money off the fees each time the card is used.
The other huge advantage that Visa enjoys is its simple, efficient business model. Because it is not a lender, there is no credit risk. The vast majority of its revenue essentially comes from swipe fees — and the more people spend, the more revenue Visa generates.
But even during periods like this, with the economy slowing, volumes are still high because consumers and merchants are increasingly going cashless. It creates steady, reliable income, and because there is little overhead and few assets involved with the core business, expenses are relatively low. That creates huge margins; Visa had a 67% operating margin and a 51% profit margin on a trailing 12-month basis. It also leads to tremendous efficiency with a 41% return on equity (again on a trailing 12-month basis). It gives Visa tons of cash flow to keep investing in its technology and businesses to adapt and grow.
It should be noted, however, that Visa is facing proposed legislation that could have an impact down the road. The Credit Card Competition Act, if passed, would direct banks with over $100 billion in assets to process online transactions through at least two networks — and one has to be outside of the Visa/Mastercard duopoly. Lawmakers say it will increase competition and lower fees for consumers.
On Visa’s most recent quarterly earnings call, CFO Vasant Prabhu addressed the potential impact of the bill, should it pass.
Our current expectation, given that our fiscal year, as you know, goes through September is that the effect in 2023 will be minimal, if any … More broadly, just in terms of our views about the impact longer term, people come to us because of the value we create, and that value comes in the form of having a dual message network and everything that goes with it, the security and the reliability we offer that is unmatched, as well as the dispute resolution and other sets of services , tokenization, all our risk management services that we layer on. We’ve competed for business in the past, and merchants have chosen us based on the value we provide.
This will be something to watch, as it could impact future earnings. But even still, cashless payments will continue to grow and Visa, with its network, financials, brand, value, and economies of scale, will likely be at the center of it for a long time. As such, it should continue to produce market-beating returns over the long term.
Dave Kovaleski has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Mastercard and Visa. The Motley Fool has a disclosure policy.