Friday 29 Mar 2024
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This article first appeared in The Edge Malaysia Weekly on July 26, 2021 - August 1, 2021

ON July 29, Robinhood Markets — which democratised investing by pioneering commission-free trading of stocks, exchange-traded funds (ETFs), options, cryptocurrencies as well as fractional shares — will list on Nasdaq at a valuation of over US$35 billion (RM147.8 billion). It will be the second-biggest listing of a fintech firm after cryptocurrency exchange Coinbase’s US$51 billion IPO earlier this year. Last November, China’s Ant Group, the giant fintech affiliate of Alibaba Group Holding, which was seeking to list at a valuation of US$313 billion, had its own IPO pulled just 36 hours before trading in its shares could begin in Hong Kong and Shanghai.

In some ways, Robinhood, which has more than 18 million active customers on its platform and US$81 billion worth of assets in custody and which raked in US$522 million in revenue in the January-March quarter — up 303% over the previous year — is a tad late to the party. By its own admission, growth is already slowing from the massive boom in retail trading early this year, at the height of the mania over millennial stock darlings like GameStop. Had it gone public at the time, some market gurus say the retail brokerage behemoth would have commanded a valuation of over US$75 billion. Even now, on its IPO day next week, Robinhood would be valued at almost as much as Credit Suisse and Standard Chartered combined.

‘Uber moment’

Five years ago, I wrote a column titled “Fintech and banking’s Uber moment”, which described how, from San Francisco to Shanghai to Singapore, a growing number of firms at the intersection of technology and finance — from those leveraging distributed ledger blockchain to payment start-ups to those involved in algorithmic trading and wealth management — were upending commercial banking and consumer finance as we know it. I attempted to answer some basic questions around the burgeoning fintech spectrum: How will business models in the financial service sector change? What will happen to credit or deposits? Will physical banking go the way of travel, music and video? Can banks stop disruptors from eating their lunch? My column quoted a dire warning from JPMorgan Chase & Co CEO Jamie Dimon that “Silicon Valley is coming”, no matter what the banks do to thwart fintech’s march. Hundreds of start-ups with lots of brains and money were working on various alternatives to traditional banking, he wrote in his annual shareholder letter in 2016. “They are very good at reducing the ‘pain points’,” he noted.

Five years on, the fintech companies, powered by boatloads of money from venture capital (VC) funds, sovereign wealth funds and private equity firms, are thriving and pose a bigger threat to incumbent banks than CEOs or regulators could have imagined. They are also more powerful and have indeed moved far beyond reducing the traditional pain points of banking to take on the likes of big money and central banks on bread-and-butter services, including mortgages, consumer finance, wealth management and foreign exchange. Last year, fintech companies attracted US$42.3 billion in VC investment despite the pandemic.

To be sure, fintechs are no longer underdog upstarts. PayPal Holdings, now the world’s 23rd largest firm, has a market capitalisation of US$355 billion — bigger than that of Bank of America (US$326 billion) and indeed bigger than that of Wells Fargo and Goldman Sachs combined. Only ­JPMorgan Chase, with a market value of US$456 billion, is more valuable than PayPal. No 2 fintech player Square is smaller, with a market capitalisation of US$120 billion, but it is growing far faster than ­PayPal or indeed the incumbent banks.

Why fintechs? And, why now? New York University Stern School of Business marketing professor and popular podcaster Scott Galloway believes that, like theatres, grocery stores, petrol stations, dry-cleaners, university classes and doctor’s offices, the world of finance is still stuck in the 1980s. “It’s hard to imagine an industry more ripe for disruption than the business of money,” he noted in a recent blog.

Galloway points out that fintechs are winning by doing things that incumbents are not. For starters, they are focusing more on innovation. Over the past five years, PayPal has issued 26 times more patents than Goldman Sachs, which has Marcus, a disruptor retail bank, under its umbrella. Second, fintechs or neobanks are cutting costs aggressively and do not have the legacy costs of bank branches. In the US, a traditional bank branch needs US$50 million in deposits to break even. And, 48% of physical bank branches in the US lose money. HSBC recently announced that it would shutter most of its branches in the US because retail banking in the country was bleeding money. Lastly, fintechs are focusing on the underserved or the unbanked. A third of the world’s adult population do not have a bank account. Nearly half the population of Indonesia do not have access to a bank account. Financial inclusion, says Galloway, is more than an economic issue. “It’s a societal issue, as it bolsters the middle class and forms a solid base for democracy,” he notes.

Everyone these days has access to a smartphone. Take Indonesia, where even though only half the adults have a bank account, more than 72% of adults have a smartphone. You may be far from a bank branch but if a fintech player designs an easy-to-use app, it can reach your pocket and allow you to do an array of financial transactions. Millennials, even in urban centres like Singapore, Kuala Lumpur or Hong Kong, do not want to venture into a branch or dial a stockbroking firm to open an account. But they are game to try out options trading on an app on their smartphones.

Not burdened by legacy infrastructure such as branches or a huge labour force, fintechs can keep costs low, harvest a lot of your personal data and, using analytics and artificial intelligence (AI), push all sorts of services tailored for your needs. Using cloud computing platforms and renting software, fintechs can deliver services at a fraction of the cost of banking incumbents. Essentially, fintechs are unbundling the traditional banking cross-subsidisation model. That unbundling makes the pricing and cost of products and services that customer buy from banks more transparent. That suits younger, tech-savvy customers as well as the older unbanked, who dreaded the opaque bank pricing.

IPO bonanza

Globally, there are now 123 fintech unicorns, or private companies with a valuation of more than US$1 billion. Fintech unicorns form 17% of a total of 728 unicorns worldwide. Of the top four unicorns in the world, two are fintechs, according to CB Insights, a start-up advisory firm in New York. Over the next 12 months, a number of top fintech unicorns, most of them far bigger than Robinhood, are likely to seek stock market listings around the world as they accelerate their battle against entrenched traditional providers of financial services. Among them are Irish-American financial services and software-as-a-service firm Stripe, which has a valuation of US$95 billion; San Francisco-based neobank Chime; Swedish buy-now-pay-later (BNPL) firm Klarna; San Francisco-based cryptocurrency exchange and bank Kraken; US consumer finance data firm Plaid, whose US$5.3 billion merger with Visa International was called off late last year and is now valued at more than US$13 billion; and Brazil’s digital finance powerhouse Nubank.

Analysts also expect Beijing regulators to allow Ant Group to finally proceed with a listing over the next six to eight months, albeit with a far lower valuation than the US$313 billion it was hoping to command nine months ago. A listing of Shenzhen-based WeBank, in which Tencent has a 30% stake, is also on the cards for the first half of next year.

The coming fintech IPO bonanza follows the listing of Coinbase in April and the direct listing of cross-border payment firm Wise on the London Stock Exchange earlier this month, which valued the firm at over US$10 billion. Digital-only Wise does not actually wire money like Western Union or MoneyGram International. Instead, it holds balances in countries on popular currency routes such as US-India, Singapore-Bangladesh or Germany-Turkey, to sidestep the high fees in the money transfer business.

The fintech market mania has been fuelled by a wave of blank-cheque special purpose acquisition companies (SPACs) targeting fintech firms. SPACs raise money through a shell-company listing with the sole purpose of buying an existing company. Just this past week, Portage Fintech Acquisition Corp, a SPAC targeting the fintech sector, raised US$240 million. It is looking for a fintech target deal that could value the combined firm at US$2 billion to US$3 billion. The biggest consummated SPAC-fintech merger this year was that of Sri Lankan-born billionaire Chamath Palihapitiya’s SPAC, Social Capital Hedosophia Holdings V, and SoFi Technologies, which valued the combined firm at US$8.65 billion.

SoFi, which is led by Anthony Noto, a former Goldman Sachs ­analyst who briefly served as Twitter’s chief financial officer, provides mortgages, personal loans, credit card services, student loan refinancing and commission-free trading of stocks, ETFs, fractional shares and cryptocurrencies. It has no account minimum and offers free financial counselling through a smartphone app or desktop interface. SoFi’s stock has since surged 55% and it now has a market value of over US$13.6 billion. Including SoFi, there have been 12 SPAC mergers in the US fintech sector this year, generating US$52.63 billion in deal volume, compared with just nine transactions totalling US$16.9 billion last year, according to Dealogic data.

Investment opportunity

Investors need to focus on the ground-floor investment opportunity that today’s fintechs present, says Dan Dolev, fintech and payments analyst at Mizuho Securities in New York. “Square’s Cash App may be on the way to becoming the ultimate neobank and the money centre bank of the future,” he says. “This could make buying Square analogous to buying a piece of JP Morgan in 1871.”

Dolev believes Cash App is the “ultimate challenger bank”. Right now, Square’s app has an average revenue per user (Arpu) of US$40 to US$50. The Mizuho analyst believes Cash App can grow Arpu to between US$150 and US$200 over the next few years as Square rolls out mortgages, auto loans, online insurance as well as a BNPL (buy-now-pay-later) service to add to the online trading services that it already offers. Currently, banks like JPMorgan Chase, Wells Fargo and Charles Schwab have Arpu of between US$400 and US$700 but with a cost base that is substantially higher than a fintech like Square.

Yet, just as fintechs are poised to grab market and wallet share from incumbents, regulators are ready to pounce on the use of data by financial institutions as well as fintech players. Regulators are focusing on antitrust enforcement of large tech players as well as the use of AI and data harvesting by fintech upstarts. Governments around the world want to encourage innovative fintechs but are mindful of growing privacy concerns. After years on the fringe, fintech players now have the ability to grab a much bigger share of the financial service market — as long as they can address the growing concerns of regulators as well as their customers. If they can navigate the regulatory minefield, Robinhood’s big IPO next week is likely to be an accelerant for these challenger neobanks.

 

Assif Shameen is a technology and business writer based in North America

 

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