Upstart (NASDAQ:UPST ) is set to disclose its (final) Q2 financial results this evening, and all eyes will be glued to management's guidance for Q3 2022 and the impact of the disposition of non-R&D loans on Upstart's balance sheet. In my previous note on Upstart, I laid out my bullish thesis for the stock in the face of a violent volume contraction amid a challenging macroeconomic environment. Here's the full report:

In today's note, I will share my expectations for Upstart's Q3 numbers based on the latest website traffic and Google trends data. Furthermore, I will share my take on a potential short-squeeze in Upstart post Q2 report tonight.

In May 2022, Upstart's management guided for Q2 revenues of $295-305M with only about 50 days remaining in the quarter, and yet, on 7th July 2022, Upstart's revenue guide for Q2 was cut to $228M. While a one-time hit of ~$35-40M is the result of management's decision to sell off the non-R&D loans on its balance sheet, we are still looking at a considerable slowdown in loan origination at Upstart.

Upstart Q1 FY2023 Earnings Presentation Upstart Q2 Preliminary Results

Upstart Q1 FY2023 Earnings Presentation

According to Upstart's management, funding constraints arising out of a challenging macroeconomic environment (stagflationary pressures) are hurting its marketplace volumes. While interest rates are still below their long-term historical ranges, the rapid step-ups in interest rates over the past few months have caused trouble at Upstart, as admitted by Dave Girouard during Q1 2022 earnings call:

Upstart Q1 2022 Earnings Call Transcript

Upstart Q1 2022 Earnings Call Transcript

After a stable April and May, 2-Yr treasury rates shot up from 2.53% on 1st June 2022 to 3.45% on 14th June 2022. Once again, a rapid rise in interest rates seems to have caught Upstart's management off-guard, and this is why I believe they are set to miss Q2 revenue targets by an additional $30-35M.

Since mid-June, treasury rates have been moderating, and this trend is a positive signal for Upstart's Q3 loan origination (i.e., revenues and free cash flows). In addition to interest rate movements, website traffic and Google trends data for Upstart support this hypothesis.

Back in June, visits to Upstart's website fell by roughly ~10%, which is equivalent to the quantum of revenue miss Upstart is set to report for Q2 [i.e., $30-35M on the initial guidance of $300M].

While the website traffic data for July will be published on Aug 10th, I think Google trends data is a fine substitute. As you can see below, the interest in Upstart tanked during June (as interest rates rose abruptly), and it has been picking back up in July and early August (as interest rates continue to moderate). According to Google trends data, I believe that Upstart's guidance for Q3 could spring a positive surprise on market participants who seem to have gotten very bearish on Upstart in recent months.

At this point, Upstart is priced for bankruptcy; however, I can't see how an FCF-positive company with net cash of $800M goes bankrupt. I understand that Upstart's loan origination volumes could remain under pressure as the Fed tightens its monetary policy by raising interest rates; however, the pace of change of these rate hikes is likely to be slower going forward, and this was evident from Jerome Powell's latest commentary after July FOMC meeting. Furthermore, the rising fears of a recession are likely to dampen inflation expectations (commodities are cracking already). Hence, interest rates may not go much higher from here, and I continue to believe that we will not go beyond 3.5-4% (even if that comes at the cost of higher inflation for longer. Find my reasoning here:

If interest rates continue to moderate (or just stabilize), then Upstart's loan origination volumes could normalize, and the stock could re-rate higher.

In my view, Upstart's fair value is ~$60 per share, and that is why I called Upstart a generational buying opportunity at $24 in July [report]. Now, my bullish stance is based on the long-term outlook for the business. However, I think we could see some sharp short-term moves in Upstart after tonight's report (such as the ones we saw in SoFi (SOFI) and Opendoor (OPEN) last week). By extrapolating the trends seen in interest rate movements and Google trends data, my projection for Upstart's Q3 2022 revenue guide is ~$250M. If Upstart's management guides above this figure, it could be a big surprise for a market that has gotten overly bearish on Upstart. With ~35% of its float sold short, Upstart is a prime candidate for a short-squeeze.

Technically, Upstart is once again trying to break back into the $30-60 range it formed after the Q1 horror show. As you can see, Upstart's RSI is trending up, and so is its MACD indicator. Hence, I think the technical setup is ripe for a sharp near-term bounce from current levels.

Now, I am a long-term investor, and I will continue to hold my (hedged) Upstart position going into this earnings report. However, if one has the risk appetite for a risky earnings play, he/she should buy Upstart before the ER report tonight. This is a risky earnings play as UPST's option chain is heavily tilted towards a down move in the stock post-ER; however, using a combination of PUT debit spreads (buy ATM put [SP: $30], sell OTM put [SP: $25]) and CALL credit spreads (sell OTM call [SP: $35], buy far OTM call [SP: $40]) in conjunction with a stock purchase, a trader could generate an outsized reward with limited risk with Upstart over the next week.

Despite a healthy pre-earnings bounce, Upstart is still trading well below its fair value going into a pivotal earnings report. While my confidence in Upstart's management is dwindling by the quarter, I am looking forward to tonight's earnings call to learn more about Upstart's (quick) disposal of non-R&D loans and execution (progression) of the company's $400M stock buyback.

The recent moderation in treasury rates makes me optimistic about the unfreezing of credit markets, i.e., Upstart's Q3 loan origination volumes could be less bad than feared. With the stock sitting just below the bottom of its recent base, a good ER report tonight coupled with positive guidance for Q3 could trigger a big move up in this heavily-shorted stock. The website traffic and Google trends data [we reviewed in today's note] are pointing toward an upturn in Upstart's fortunes. Hence, I am going into tonight's earnings report with more optimism than fear; however, I continue to remain hedged at $48, as mentioned in my previous article on Upstart.

Key Takeaway: I rate Upstart Holdings Inc. a strong buy at $29

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Thanks for reading, and happy investing. Please share your thoughts, questions, or concerns in the comments section below.

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Disclosure: I/we have a beneficial long position in the shares of UPST, OPEN either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.