Carvana Is Rallying Fast, But It's Still a High-Risk Investment

Key Points

• Carvana's stock price has soared 878% since its December low of $3.55.
• Used vehicles are now fetching less than they were at their 2021 peak.
• Short covering, narrowing losses and bargain hunting may be among drivers of the recent rally.
• The company's debt burden of over $8 billion remains a significant hurdle.
• Despite the fast-moving share price, may have more in common with meme stocks than companies with long-term potential. 

When investing in the stock market, or even just evaluating large purchases such as a car or home, it’s important not to remain anchored on data points that no longer apply.

For example, it wasn’t that long ago that shares of used-car dealership Carvana Co. NYSE: CVNA were careening down a cliff. 

However, that’s changed pretty dramatically lately. Shares are up 878% since their December low of $3.55. 

The stock’s recent returns are: 

• 1 month: 89.63%
• 3 months: 226.86%
• Year-to-date: 521.31%

You can get a sense of the magnitude of those returns by looking at the Carvana chart. 

It’s understandable if you haven’t looked at the stock lately, as it suffered through a decline of 97.96 % in 2022. When that happens, investors with a mindset of going long on top-performing growth stocks tend to move on to another candidate with more institutional support to send it higher.

Analysts See Losses Narrowing

In addition, Carvana hasn’t been profitable, but analysts believe losses will narrow significantly this year, to a loss of $5.63 a share, an improvement over last year’s loss of $15.74 a share. In 2024, that’s expected to narrow again to a loss of $4.95 per share. 

Despite the positive developments, there’s still some sand in the gears.

For starters, while used-car prices soared during the worst of the supply-chain disruptions, Carvana’s revenue was growing at triple-digit rates. 

However, used vehicles are now fetching less than they were at their 2021 peak. According to the Manheim Used Vehicle Value Index, used-car prices decreased 4.2% in June from May, and the index dropped 10.3% from a year ago. June’s price decline is one of the biggest drops since Manheim has tracked activity.

Larger Declines In Revenue

As you might guess, Carvana’s revenue has been rapidly decelerating. In the past three quarters, year-over-year declines have been growing. That’s not exactly the direction you want to see a company going.

So what’s driving Carvana’s share-price growth? 

There are a few possibilities. First, there’s likely some short-covering going on. According to MarketBeat’s Carvana short interest data, the dollar volume of short interest totaled $1.26 billion as of June 15. 

Second, there may be some genuine optimism that the company’s cost-cutting measures are having an effect in staving off bankruptcy, which has been a threat to Carvana for months. The cost cuts reportedly include layoffs, shorter operating hours and not hiring for open positions. 

Third, in the past two quarters, the loss was narrower than expected, as Carvana earnings data show. 

Fourth, there could simply be some bargain hunting, potentially with the idea of capturing some profits from a swing trade. 

Let The Good Times Roll?

Are the good times for the share price likely to last? Probably not. 

The company’s debt burden of over $8 billion remains a significant hurdle. 

During the heyday for used car prices, Carvana went all-in for growth, using debt financing. However, as used car prices fell and interest rates rose, the anticipated growth failed to happen. 

There were other business decisions, that in hindsight, were big mistakes. Carvana bought the assets of Adesa, a used-car auctioneer, with the idea of vertically integrating operations to fuel growth. 

The deal, valued at $2.2 billion, added to the company’s debt load, and closed at a time when Carvana’s growth was already slowing. 

 Debt-For-Equity Swap Canceled

In early June, the company canceled a planned $1 billion debt-for-equity swap, as creditors balked at exchanging their notes. There’s logic to that: In a bankruptcy, creditors are ahead of equity owners when it comes to distributing any assets. When a company is already in a precarious position, it makes sense that creditors would prefer to have a chance at recouping some of their money sooner, rather than moving further back in line. 

This is a case of a fast-moving share price that may have more in common with meme stocks than companies where investors truly see long-term potential. Is it possible to flip the stock for a fast profit? Sure, if you have the timing exactly right. As a rule of thumb, that kind of speculating is highly risky with a company that is teetering on the edge of bankruptcy.