Duolingo: This Beaten-Down Growth Stock May Bounce Back

Key Points

• Duolingo stock is down more than 30% since May, but Friday’s pop hints a rebound may be forming.
• RSI and MACD are flashing green, with strong analyst support behind the scenes boosting the bull's thesis.
• Their upcoming earnings in early August make this a classic high-risk, high-reward play. 

Shares of Duolingo Inc. NASDAQ: DUOL, the language-learning app turned Wall Street growth darling, have had a tough run lately. After rallying more than 100% between March and May, the stock has since sold off hard, shedding more than 30% from its highs. However, the 2% surge on Friday, July 18, during a generally flat day for the overall market, might indicate that the trend is beginning to shift.

Duolingo makes its money primarily through paid subscriptions, in-app purchases, and advertising across its wildly popular gamified learning platform. The company has built a loyal user base by combining addictive mobile gameplay with real educational content, and that’s just one of several reasons to think it’s time to start backing up the truck.

A Brutal Sell-Off, But a Tempting Setup

For starters, though, there’s no getting away from the fact that the recent pullback has left plenty of investors rattled. Much of the weakness seems to have stemmed from signs of decelerating growth, with Duolingo’s subscription momentum having cooled somewhat, and its churn starting to tick higher. Even as overall engagement remains high, third-party data tracking daily active users shows signs of growth slowing quarter-over-quarter. 

The recent sell-off may seem justified at first glance, but it’s also created an interesting setup for investors on the sidelines.

Technically, Duolingo is showing signs of being extremely oversold right now. Its Relative Strength Index (RSI) sits around the 30 mark, a reliable signal that the bears may soon run out of steam. At the same time, its MACD is on the verge of a bullish crossover, something we last saw in March, right before the stock ripped higher for weeks. 

With earnings due in early August, the setup on the chart could hardly be emerging at a better time. 

Wall Street Isn’t Giving Up

Many analysts are sticking with the stock, even after the recent weakness, backing up the theory that we're looking at a bounce-back play. Just last week, the team at JPMorgan reiterated their Overweight rating on Duolingo, flagging it as a long-term leader in the language learning space. 

The team did trim its price target slightly, but even at $500, it still implies an upside of more than 30% from current levels. Morgan Stanley issued a similar note earlier this month, reiterating its own bullish stance on Duolingo’s prospects and highlighting the company’s durable growth potential.

The company boasts well over 100 million monthly active users, yet that still represents just a fraction of the total addressable market in language learning. Even among online learners, its penetration remains in the teens, a fact that speaks to the company's enormous growth potential.

Weighing Up an Entry

However, Duolingo has to deliver next month with a price-to-earnings (P/E) ratio north of 180 right now. Any further signs that its growth potential is dipping could make the recent sell-off look like a starter ahead of a much bigger main course.

Questions are also being raised about the longevity of Duolingo’s competitive moat. New entrants and specialized startups are starting to chip away at its dominant platforms, and investors with a weak stomach should avoid looking at Duolingo’s online user reviews. Product fatigue is a solvable problem for a company with as much cash and brand recognition as Duolingo.

The recent sell-off has been brutal, and next month’s earnings report could be disappointing. But for opportunistic investors with an appetite for risk, it’s hard to ignore Duolingo's bounce-back potential right now.