Wrap of Week #41: Bitcoin, Gigablock, Pictet, Zuper, BankServAfrica

 

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Wrap of Week #40: Drivezy, SEC, Wealthfront and Fundrise, BeeSolar, ICT2017, Data privacy

  • The BBC Monday briefing offered insights the SEC stance towards Crypto-ETFs, Drivezy adopting Bitcoin before Uber. Bitcoin exchange guidance towards Segwit2X, and rising fees for processing Bitcoin transactions.
  • For me, this argument is more about public versus private real estate rather than passive versus active: Read more in: What a wonderful customer-centric investment world! The Wealthfront – Fundrise dispute.
  • InsureTech Connect 2017 (ITC2017) was held in Las Vegas, USA, in early October, with more than 3,500 attendees, including insurers and reinsurers, as well as entrepreneurs, investors, technology employees, and consultants.  48 countries around the world, gathered in Vegas. DailyFintech Review of ITC2017

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Wrap of Week #39: Haven Life, Snapsheet, Swiss Fintech, Collect AI, SPACs, Curve-Xero, Zen, Barbados, Fidelity

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Check also the latest topics that include Consumer banking, Lending, Insurtech, bitcoin & blockchain and crypto etc.

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What does the wisdom of the market tell us about the Fintech bubble question?

antifragile_things_that_gain_from_disorder-taleb_nassim_nicholas-18363273-frnt

Markets going through disruption tend to be a bit manic depressive, with headlines alternating between:

“Its a bubble, the big crash is coming, sell sell sell

“Its going to the moon, load up today, buy your Lamborghini tomorrow, buy buy buy”

The Fintech bubble question has become a staple as the media chases page views with sensationalist clickbait headlines.

I want to bring some data, rather than add to the landfill of opinions. That data is lurking in the markets (both stock and cybercurrency). Investors have skin in the game. They back their opinion with cash. Investors can be wrong for a while, but in aggregate their actions usually signal something more interesting than an opinion.

In this post we seek data from the markets to answer the question whether Fintech is a disruptive force or a bubble waiting to pop.

What does the KBW Index tell us?

For example, if Fintech disruption is real, it might be reflected in Bank stocks declining in price. You can see the logic from past disruptions such as e-commerce disruption hitting retailers or social media disruption hitting publishers. In that scenario, bank stocks would be declining.

KBW created a leading index of Bank stocks with symbols BKX. There is another one with a more regional bank focus called KRX. A quick glance tells us that investors still like bank stocks.

BKX KRX

The price action to date has nothing to do with Fintech. It is more likely simply that monetary policy in America is on a path to rising rates which benefits banks and there is an expectation that the regulatory load will be lightened under the Trump Administration. The big moves can be easily tracked to the Trump election and statements by Janet Yellen.

So, the takeaway is “Fintech is a bubble, it is having no impact on bank stocks”. Not so quick, read on.

Lets look at publicly traded Fintech stocks.

Fintech ETFs – FINX and FINQ

Daily Fintech created the first Fintech Index back in March 2015. More recently a couple of companies created tradable ETFs from the simple idea of an index – FINX and FINQ. Zacks offers a comparison

These are not as cheap as buying a Vanguard S&P fund. Both charge 68 bps.

There are some differences between weighting by big, medium and small cap and by geographic region, but they share one thing in common. The holdings are almost all “traditional Fintech”; this is Wave 1. Some are Wave 2 which is Emergent Fintech based on SMAC (Social Mobile Analytics Cloud). This is natural. To get to scale big enough to be a public stock you need to play within the current system.

(See this post for a description of the three waves of Fintech). TL:DR: Traditional Fintech Wave 1 is “we bring you lunch” (aka vendor), Emergent Fintech Wave 2 is “lets split the bill and partner” (aka B2B2C revenue share partnership) and Disruptive Fintech Wave 3 is “we eat your lunch”.

So it is natural to see these Fintech ETFs going up in tandem with KBW and the overall bank market. When the banks prosper, the vendors and partners to those banks prosper. Many of these companies are moving from a pure vendor model (here is my technology and here is the price) to a revenue sharing model (either white label or co-branding). In short, Traditional Fintech is morphing into Emergent Fintech as quick as they can; but in both models Fintech and Bank interests are aligned.

There are some great companies in these ETFs, however don’t trade it as a hedge against bank stocks. The correlation is surprisingly strong.

First we show the two Fintech ETFs together (taking a 1 year view):

FINX FINQ

They track pretty closely. FINQ seems to stop this summer and as they track closely enough I only use FINX for further analysis.

So, lets look at Bank stocks and Fintech stocks together. In a 3 month view we see some outperformance by Fintech, but on a longer term horizon we see mostly correlation:

BKX FINX

Stop yelling, its Yellen that matters

Looking at all these ETFs, there is high correlation. Its The Macro Stupid.

So lets look at some individual stocks on opposite sides of the Fintech Bank divide and how they reacted to similar crises.

Comparing Lending Club and Wells Fargo crises

When the Lending Club CEO did something stupid, the board fired him immediately and the stock tanked. In my view, the market overreacted and LC was a bargain and I was fortunate to buy in at the all time low of 3.51 (see this post for my analysis at the time) and sold a few months later.

When Wells Fargo did something stupid my analysis was a) that this was worse than what  Lending Club had done and b) the underlying cause was probably related to Fintech disruption (a thesis I outlined in this post).

So you would think that Wells Fargo stock would have crashed like Lending Club did. A quick look at the two charts (on a two year view to get the LC crash) shows this is not true:

WFC LC

The takeaway, scandals are rougher on Fintech upstarts than Banks. How long this will remain true is a matter of opinion. Wells Fargo and Equifax will be stocks to watch, but also assume we will see many more blow-ups like this in the months ahead – it is Act 3: Denial in the 7 Act Creative Destruction Play.

Searching for negative correlation via Disruptive Fintech

Smart money is waiting for the OmniBubble to burst. This is bigger than all previous bubbles, whether Housing or DotCom, driven by money printing all over the world. If you see this OmniBubble, none of the normal strategies work. All the sensible assets are also over valued. You want to buy something that is anti fragile that will benefit from a crash.

There are not many tradable stocks in Disruptive Fintech category of Crypto Finance. There are lots of private companies but then you buy into the public/private valuation inversion which was the subject of no 7 of our Top 10 Fintech Predictions for 2017:

“7. Uber will not do an IPO and may do a private down round.This will signal the dramatic end of the public private valuation inversion (private higher than public valuations). This started in 2016 and will have its dramatic end in 2017.”

Uber is still making brave noises about an IPO, but it is likely that an IPO will be a massive down round. Some other overvalued private companies are “taking their lumps” now and getting the pain over. One example is the 70% valuation drop for Prosper. Their problem was that Lending Club was such an obvious comparable.

The only public stock I can see where any Josephine Q Public (aka unaccredited investor) can buy without permission into the Crypto Finance Third Wave is Overstock ($OSTK) where TZero and other Crypto Finance ventures are lurking within an e-commerce company. That is not a pure play.

That explains the hunger for ICOs. Those ICO issues are all you can buy if you think Blockchain, Bitcoin and Crypto will change the world and you don’t have access to private deals. However there is a much, much simpler investing strategy hiding in plain sight:

You could not buy The Internet in the 1990s, but you can buy Bitcoin today.

There are obvious parallels between the Dot Com bubble and today’s ICO craziness.

In the 1990s, you could not buy “The Internet” if you saw The Internet changing the world. All you could buy was lousy stocks like Pets.com. Today’s equivalent is a lousy ICO. If you see Crypto Finance changing the world and you are an unaccredited investor, all you can do is buy an ICO. Not quite true. Today you can also buy Bitcoin. If you see Crypto Finance changing the world, your actionable trade can be as simple as buying some Bitcoin. Any “dumb” retail unnaccredited investor can do that without anybody’s permission. Meanwhile the smart money buys into overvalued private deals. Err, who is the sucker at this table?

Getting back to the bubble question, one way to look at this is that we are witnessing the end of the Financialization Bubble. This has been going on for so long that it is harder to see it as a bubble. For years, the smart money has seen this and while pumping the securities bubble as much as possible, they buy gold and land as better stores of value than paper assets. More of them are now also buying Bitcoin as an alternative store of value, which explains the rise in price. Some on Wall Street trash talk Bitcoin and some buy it and some do both. All understand that Bitcoin, weird as it may sound, is the anti fragile portfolio response to decades of loose money policy.

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Bernard Lunn is a Fintech deal-maker, author, adviser and thought-leader.

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Wrap of Week #37: Chinese crypto exchanges, IOTA, ICO summit in Zurich, Insurtech Connect & tropical storms, Bill.com, JP Morgan, Mexican Fintech

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How incumbent banks, particularly Swiss, can thrive thanks to GDPR and cybersecurity, even after PSD2, but need to embrace Bitcoin

data hackers

The usual story line goes that big old slow incumbents cannot compete with agile Neobanks with their hip UX and with their low costs that are unencumbered by branch networks.

If UX is the game, banks can at best play catch up. They can buy the hip UX ventures, only to be left in the dust as a new one emerges that is even more hip. Just when you figure out mobile apps, you have to figure out ChatBots with an AI back end. Just when you figure out ChatBots with an AI back end, you have to figure out…

Doing that with a clunky backend designed in the batch era is not just hard, it is almost impossible.

Playing catchup is a lousy game.

PSD2 made the playing field level

That was really bad news for incumbent banks. In theory, banks can win on that level playing field. In reality, if the game being played on that level playing field is how to create the best UX, banks will lose.  Agility wins that game and a Neobank is more agile than an incumbent Bank. If two teams play soccer/football on a level playing field and one has an average age 25 and one has an average age 55, I am placing my bet with confidence on who will win. If the 25 year old team has a 25 degree upward slope, the odds even up.

Consumers don’t care that much about UX

That is heresy. UX is the whole deal. That is the mantra we have all been repeating, but which I will challenge. Sure consumers care about UX. But how much do they care? How much do they care compared to things like low fees, low interest rates and that simple word – security.

Before getting onto security, look at this from the POV of those hip Neobanks. Read this post by Fred Destin of Accel, one of the best VCs, working at a top tier VC firm. The Customer Acquisition Cost (CAC) for Neobanks is a real issue. This is not like getting users to engage with a free social service. When money is at stake, people take longer to commit. Fear is part of that delay. Will the venture still be around years from now? Will they lose my money?  The fear may be irrational, but even irrational fear kills your CAC metrics.

The biggest fear is, will they lose my money? Will they lose my data? This is where banks could have an advantage – if they play their cards well.

The latest hack – Equifax – creates an inflection point in the market. It could be a disaster for banks. If they don’t take urgent and decisive action it will be. Or banks can seize the opportunity that this creates.

The Equifax inflection point

The Equifax data loss is a huge problem for institutions that live on trust from consumers. It impacts consumers in such a fundamental way, causes so much work and impacts every interaction with the banking industry. 

To anybody who understands a bit about cybersecurity, this was no surprise. Cybersecurity folks hold 3 truths to be self evident:

  1. Anything that is digital can be hacked. Nothing is secure. It does not matter whether you are a Fortune 500 company, Government, US Presidential candidate, mega Bank or payment network. You will get hacked. It is an arms race that the good guys are losing because every solution, no matter how clever and expensive, has a shelf life until the bad guys find a way around it (and the payoff for the bad guys is big enough and the Crime As A Service networks use the full power of digitization and Moore’s Law). Your identity can be stolen with ease and with a valid but stolen identity all the KYC & AML processes are useless.
  2. This is a Board level issue. Banks and other big companies are willing to spend whatever is needed because the cost of a breach is so high. This is an existential threat for the biggest companies on the planet. Attention is not the problem. Budget allocation is not the problem. A viable solution that does not create an awful onboarding UX is the problem.
  3. Eliminating static passwords is essential. With key loggers on mobile phones, everything you type on those phones is visible to criminal gangs. Which is a problem when we all live on our phones. If you drew a matrix with Great UX and Secure as the axes, it is obvious where Mobile phones sit.

There are only two ways out of this:

Scenario 1: everything moves to decentralised self-sovereign identity stored on a blockchain. This will make banks as we know them today irrelevant. The problem for ventures pushing in this direction is “how do we get from here to there, today?” It is a grand futuristic vision, but consumers want a solution today, not at some distant time in the future. The banks also will have trouble buying this vision. Telling a Fortune 500 board that their only hope is to move off centralised data centres to a fully decentralised Blockchain based network will get you some odd looks around the boardroom table.

Scenario 2:banks get their act together. Which brings us to the wonderful world of Cold War spy stories and the one time password.

One time password is the only answer – ask John Le Carre

If you steal the the one time password, you can steal the contents of that message/payment and only that message. And you have only a short time window to do do. This makes it theoretically possible,  but economically impossible for the thieves. That is fundamentally different from stealing data that is a key that thieves can use multiple times (such as a password, social security number, credit card number),

The one time password was extensively used during World War 2 and the Cold War. John Le Carre fans will know it as a key part of “spycraft”.

One time password uses cryptography. Don’t worry, you Bitcoin fans, we will get to that other cryptography later.

That totally messes with the frictionless UX

If you live in Switzerland, you may already use a hardware device that the banks give you (a “dongle”) that uses one time password technology. Many Banks insist upon it. But each dongle is bank specific and can be rather unfriendly to use, making onboarding harder. Once you get used to it, the dongle is fine, but the onboarding experience is lousy.

This is where the opportunity lies. The onboarding pain of a one time password dongle makes consumers reluctant to switch to a new bank if they have to adopt a totally new dongle. The incumbent bank can argue “why not keep all your accounts with us, we can do all the account aggregation and reporting that you need”.

Of course a Neobank can also use a a one time password dongle. It will make them significantly less hip and mess with the lovely UX, but it will be significantly more secure. Personally that is a trade off I am able to live with. 

So how do you find early adopters to use this secure account with a harsh onboarding UX? Up to this point, incumbent banks will be doing the nodding dog act. The takeaway will be “just protect the base by being ultra secure”. 

This is where incumbent banks will start getting uncomfortable because my recommendation is that they offer a secure service to Bitcoin investors.

The newbie Bitcoin investors pain point.

The Bitcoin veterans tell newbie Bitcoin investors to have hot wallet and a cold wallet and the cold wallet needs to be on a hardware device that you put in a  safe. They look with scorn on anybody who thinks this is a pain.

If you have a lot of Bitcoin on your hardware device, put it in a bank vault rather than relying on a home safe.

Does that remind you of the gold business?

The reason I wrote “particularly Swiss” in the headline is that Bitcoin is legal in Switzerland. Sure you have to ask investors/customers for AML/KYC checks, but that is not a problem. Just don’t accept Altcoins designed for the dark web. Dark web users don’t use Bitcoin so much any more because it is trackable. With a bit of work it it is quite feasible to define a service to store Bitcoin that passes AML/KYC checks.

However, once they have done this, banks do not need to give that information to anybody who comes knocking asking for the data, which brings us to GDPR and Switzerland.

Switzerland by law is already ahead of GDPR – customers have data privacy as a right.

Bitcoin investors is a tiny market today, maybe 1% of the gold market. Read Peter Thiel’s Zero To One to see the value of starting with a tiny market that nobody else cares about that may grow in future (for example PayPal started with power sellers on eBay).

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Bernard Lunn is a Fintech deal-maker, author, investor and thought-leader.

Get fresh daily insights from an amazing team of Fintech thought leaders around the world. Ride the Fintech wave by reading us daily in your email.

Wrap of Week #36: ICOs, Bancor, Kickico, Square, ET index, Zhong An, MoneyOnMobile

From Coins to environmental investing; from bans to full stack insurance, from MoneyOnMobile to Square!

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