Why Is Cathie Wood Buying Roblox?

On Wednesday, February 16th, shares in gaming company Roblox (NASDAQ:RBLX) began to move sharply downward following the company’s Q4 earnings report. While other investors were selling Roblox, Cathie Wood’s ARK Invest rapidly stepped in and began buying the heavily sold off shares. What’s not clear is why is Cathie Wood buying Roblox, a seemingly distressed technology company.

Roblox is an online gaming company that is involved in the creation of a variety of 3D games and digital learning products. The company sells access to its platform, allowing developers to create their own products using the Roblox gaming engine. The community of Roblox users has created more than 20 million games on the platform.

 

In total, ARK purchased 454,667 shares of Roblox stock. That amount, however, was split between two different funds managed by the investment firm.

 

The ARK Innovation ETF (ARKK) bought up 337,552 shares. The remaining 117,115 shares were purchased by the ARK Next Generation Internet ETF (ARKW).

 

The distribution of shares in favor of the innovation fund is hardly surprising, given that ARKK is the flagship fund managed by ARK.

Like many of the investment decisions made at ARK, Wood’s decision to buy Roblox stock appears to be driven by a selloff that left the company favorably valued. The day ARK made its purchase, Roblox stock had sold off by more than 25 percent.

 

Large purchases of depressed tech stocks are fairly common for ARK. The firm has made similar investments recently following drops in Shopify (NASDAQ:SHOP), Twilio (NASDAQ:TWLO), Tesla (NASDAQ:TSLA) and Zoom (NASDAQ:ZM).

Wood has stressed many times that her investment horizon is typically five years. Over this time period, young companies like Roblox purchased at low prices today have a long runway to rebound and produce generous returns. Though potentially risky, ARK’s recent activity demonstrates a commitment to purchasing promising tech stocks going through hard times.

 

Assuming some or all of these tech companies regain the ground they lost during the selloffs, ARK could see considerable short-term, medium-term and long-term gains from its recent investments.

 

The more important factor, though, is the long-term potential of these stocks. By buying during selloffs that may not be fully justified, Wood and ARK can build considerably discounted stakes in promising companies. Even if some of these positions don’t pay off, a few large winners could result in ARK reporting handsome returns to its investors.

 

Roblox has several factors going for it that could make it attractive to investors while its price is still low. Across 2021, the company’s revenues increased by 108 percent to $1.9 billion. User growth was slower but still clocked in at 55 percent. At the end of 2021, Roblox had 45.5 million daily users.

 

Even the earnings report that ultimately sent the stock sharply lower featured considerable cause for optimism. Q4 revenues were 82 percent higher than in 2020. Despite overall earnings being lower than expected, the sheer growth Roblox is reporting is more than enough to justify investor interest.

 

Analyst price targets also strongly favor the company over the next year. At the moment, the average price target for Roblox is $90.75. With the stock currently trading at $49.45, the target price would yield an upside of 83.5 percent. With so much room for the stock price to run, Roblox could miss the analyst target average by a considerable amount and still produce extremely good returns.

 

Recently, technical indicators have also started to suggest that Roblox is oversold. The RSI most recently has been under 30. This indicates that the stock has been sold off too far and will likely begin to rebound in the relatively near future.

 

Finally, Roblox is one of the stocks that investors could examine as reasonably priced plays on the metaverse. The Roblox gaming platform and graphics engine will likely see considerably more use as companies seek to build their own virtual reality worlds.

 

With so many metaverse companies overbought as a result of investor enthusiasm for the technology, Roblox may be one of relatively few bargains in the virtual reality industry at the moment.

 

With that said, there are obviously risks associated with Roblox as well. The biggest problem the company faces is a decline in overall bookings growth. While bookings did increase by 20 percent in Q4, that was the slowest rate of growth since 2019. If bookings growth fails to pick up in the coming quarters, it’s unlikely that Roblox will perform in line with analyst expectations going forward.

 

The downstream effect of lower engagement that would likely scare investors is the possibility of larger losses. To date, Roblox has never reported a profit. With bookings slowing down, though, the company’s path to profitability could get longer and substantially more difficult. This would, of course, support a lower valuation for the company more in line with its current stock price

 

More worrisome still is the fact that the company’s efforts to reverse the declining bookings growth trend seem to be failing. According to the Q4 earnings report, Roblox increased its R&D spending by over 180 percent compared to Q4 2020. Given the lackluster bookings results, investors are understandably concerned that Roblox could be running out of steam and struggling to remain relevant.

 

Finally, there’s the sheer volatility of the stock itself. While high levels of volatility aren’t uncommon among younger tech companies like Roblox, they can be concerning for investors who aren’t prepared to ride out large price swings.

 

Over the last 52 weeks, shares of Roblox have gone from highs of $141.60 to lows of $43.10. While it’s not too likely that Roblox will encounter another major selloff, the sheer size of this range shows that nearly anything is possible.

 

Roblox stock presents an interesting mixture of pros and cons. On the plus side, the stock clearly has considerable upside potential and shows extremely strong revenue growth. At its current pricing, there’s a good chance that the company is oversold and could be a strong value buy. Exposure to the emerging metaverse market also makes Roblox appealing to investors who want to capitalize on the new trend of virtual worlds.

 

On the other hand, the slowdown in engagement as booking growth diminishes could present serious challenges for the company. By extending its path toward profitability and accenting losses, lower bookings could keep Roblox stock well below the range analysts expect if they persist into future quarters.

 

While metaverse exposure is a long-term advantage, it probably won’t do as much for the company on a shorter time horizon. Until Roblox can fully capitalize on metaverse technology, gaming will remain the most important part of its business.

 

Overall, investors who are comfortable with reasonably high levels of risk and volatility may want to consider taking small positions in Roblox.

 

Despite its potential downsides, the stock’s 12-month upside at the median analyst target price is large enough to offer proportional levels of risk and reward. For investors who are willing to follow Cathie Wood’s model and invest for five years or more, the rewards could be even larger.

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