Fintech 🧠 Food - Dec 5th 2021 - Square is the Block, David Marcus exits Meta & Why Global is a new Fintech primitive.

Hey everyone 👋, thanks for coming back to Brainfood, where I take the week's biggest events and try to get under the skin of what's happening in Fintech. If you're reading this and haven't signed up, join the 9,718 others by clicking below, and to the regular readers, thank you. 🙏

☀ gm. How are you keeping fine Fintech folks? I've had a week. Hosting live events, clients, dinners, and international visitors. Now looking forward to a break for the holidays. For that reason, next weekend's Brainfood will be my last of the year. I need a rest and take time with family (who have lost dada to too many Saturday's drafting brainfood).  

This little newsletter started as a way for me to process the news and force me to understand what's happening in Fintech. I honestly didn't expect nearly 10k of you to be subscribed to the mailing list and 20k views per post within 18 months, but I'm super grateful for all of you. This year it's been so fun to get out and meet some of you, and hopefully, we can do that more. It's still just me and a grammar.ly subscription giving you pure, unfiltered thoughts on the world. If you think anyone might find it helpful, go ahead and share and get them to subscribe.

🔌 And if you want a Fintech superpower (and to give a little holiday joy), why not check out 11:FS Pulse. It lets you see videos of global Fintech UX and UI journeys. Everything from Paytm in India, Nubank in Brazil, Monzo in the UK, and many exciting up-and-coming Fintech companies. If you're building a strategy deck, a thesis, or a product, Pulse should be your starting point. Founders reach out to tell me it helped them save months of research and mistakes. It could do the same for you :)

Weekly Rant 📣

Global by default

One of my memes is that finance isn't global it's globalized. When you try to send money abroad, there's no single system for that. There are countless networks, mechanisms, and fintech companies papering over the cracks. 

But what's coming next is global by default.

We've seen consumer remittance and FX apps like Revolut and Wise grow to become serious market players in the past decade. The consumer Fintech companies have an interesting barbell of customers, from migrant workers remitting home to the wealthy with international lifestyles and kids abroad.   

B2B providers like Airwallex (and yes, Wise and Revolut too) have also helped businesses "bank like a local" and experience holding and transferring local currencies as if they'd opened an account locally.

Much of this is built on Fintech B2B infrastructure providers like Currency Cloud who manage global FX as an API, or payments companies like PPro and Rapyd that provide access to local payments rails for international businesses. Then you have companies like NIUM, which act as a layer over the top of those players to combine payment acceptance, banking like a local, and card issuance in 30+ markets (and payouts in 190+). 

The friction in international exchange and money movement/asset transfer is being attacked by countless talented entrepreneurs in every geo. But each of them will tell you, it's a grind. The more long-tail the market, the worse the infrastructure.

Why is international so hard?

To unpack this (and grossly oversimplify), we have to take it back to first principles.

Each country issues its own currency, historically as paper. Paper money is effectively a bearer instrument, meaning, if I give you a $1 note, you now have that, and I no longer do. It has an instant settlement. The problem with paper money is it takes a long time to transport in trucks around the country, and there's a risk of theft.

So banks invented checks, which can travel long distances at lower cost but don't settle instantly. Banks have to clear a check before it settles (AKA, before the money, actually moves). Clearing is where the bank checks that the payer has enough money in their account before sending it to another account (perhaps at another bank). In this case, money only moves (settles) when both banks agree it has, and they update their ledgers.

Eventually, all of this check clearing became a mess with thousands of banks, clearing millions of checks all in their own way. So each country set up centralized clearing and settlement systems (with their central bank's oversight or direct control). Examples are Fedwire in the USA or CHAPS in the United Kingdom (don't you love that the UK called its system chaps, that's the most British thing ever).

Some countries even have real-time gross settlement systems (RTGS) that allow bank customers to move money nationally in almost real-time.

Internationally there is no single clearing and settlement system. Many for banks and capital markets (like CLS, Clearstream, Euroclear, and the DTCC). Many central banks have relationships to help ensure different currencies can continue to cross borders. But there isn't one system like the central banks have at the national level.

Then there's SWIFT.

SWIFT is a messaging system set up by banks in the 1970s to make international payments electronic. In the SWIFT network, a bank in the USA picks a "correspondent bank" in another country (for example, the UK).  

SWIFT messages work (a bit) like an email chain.

1. Bank in the USA says to the bank in the UK, my customer would like to pay yours.

2. Bank in the UK says, OK.

3. Bank in the USA say's, I've taken money out of my customers account.

4. Bank in the UK says, thanks, I've added money to my customer's account.

5. The banks then clear and settle using their Nostro and Vostro accounts. 

If the bank in the USA wants to pay a different bank in the UK, they rely on the bank in the UK to clear and settle domestically. Put another way, USA bank moves money to UK bank, who then transfers it to another UK bank. This move from 2 hops to 3 hops is just the beginning. If you want to get into long-tail markets with less actively traded currencies (like the Nigerian Naira, for instance), this could take 4 or 5 hops.

This is further complicated because the sending bank has to figure out the route a payment will take and comply with all laws and rules of both the sending and receiving country. This can get incredibly complex in countries with complex tax rules (like South Africa), and South Africa is the gateway into all of Africa for many banks. 

Because of all of this complexity, many banks have never successfully automated their middle and back office for payments. A SWIFT payment may still involve manual checks, errors, delays, and reconciliation issues. Those large teams performing manual checks are also the source of massive regulatory risk to the bank. International criminals often create complex payments to hide their proceeds of crime. That's why you often see banks fined billions for regulatory failings in international payments. 

Banks often charge fees, anywhere between $40 and $120, for an international payment to make this system profitable.

To save cost banks also settle "net" positions with their correspondent banks. Rather than managing each individual payment, banks pay each other the difference at the end of the day. Net settlement is essential to understand.

• If Bank A customers sent $10

• and Bank B customers sent $9

• Bank B simply sends Bank A $1 ($10 - $9 = $1)

The alternative network.

Western Union pivoted from a telco to a money transmission company in the 1980s, building a global network of agents and branches where customers could send money internationally. Western Union can build big pools of cash in each currency and perform net settlement (netting) in its own customer base by building relationships with international banks.

1. If 1,000 customers in the USA want to send money abroad

2. and 800 in the USA customers want to receive money from abroad

3. Western Union can move the money between their own local accounts and do one big batch payment between countries at the end of the day.

4. This saves fees which they can pass on to their customers. 

But Western Union still has a giant network and physical infrastructure to maintain; this carries a cost, which they pass on to customers in fees and a % of the transaction.

The abstractions unleased innovation

CurrencyCloud, founded in 2012, was the first Fintech infrastructure play to make international payments, truly API first. Before CurrencyCloud, moving value across borders meant building relationships with brokers or international banks, most of whom had terrible APIs and fee structures.  CurrencyCloud brought the benefits Western Union had of a network, without the physical infrastructure.

From here, companies like Wise or Revolut could combine their own experience of working with FX with a simple set of APIs to reach many different markets. (Since 2012, both CurrencyCloud and many Neobanks have evolved much more sophisticated netting, FX, and banking operations.) But the rise of this infrastructure now means that consumers and SMBs choose how to move money internationally from lower-cost, digital-only providers.

(Anecdotally I remember when Revolut gained notoriety, many bankers saying things like “it’s just netting, these guys are charging way less than they could, fools.” An incumbent’s cash cow is an innovator’s wedge product it seems.)

The next wave is mashups.

Now we have the infrastructure, global becomes the default. Companies like Lightyear can combine the ability to invest like Robinhood with the low international fees of Wise.  Jeeves can combine the expense management of Ramp with the borderless account from Revolut. I think we’ll see much more in this trend in the coming year.

But it's still hard at the frontier.  

These abstractions work in major markets with high liquidity. The compliance and infrastructure challenges faced by companies like NALA or Chipper Cash are non-trivial.

Perhaps this is where a new global, USD-based payments rail like Stablecoins will eventually play? As a sort of Eurodollar for everyone else.

That would be cool.

ST.

4 Fintech Companies 💸

1. Vauban - Angelist for Europe

• Vauban allows VCs and angel syndicates to build and manage special purpose vehicles (SPVs).  It includes all the legal documentation, fundraising management, banking, and investment portfolio tracking you'd expect. Vauban currently has 400 angels and syndicates with more than 5000 investors onboarded and is used by top European funds like Anthemis, Passion Capital, and Octopus Ventures.

• 🤔 Angelist never took off in Europe, primarily because it never had to.  The US tech scene boomed in the past decade, and it's so much easier to double down on growth there than tackle the fragmented European market. Europe hasn't had an "everyone in tech is an investor" culture until recently. In the US, operators and early hires are all in angel syndicates; in Europe, people may do a bit of crowdfunding, but the angels and syndicates were the exceptions, not the rule.  That is starting to change as the Monzo mafia, Wise early employees, Checkout.com, and Revolut angels enter the market. With infrastructure like Vauban, the next decade in Europe will be interesting if they can solve the regulatory shit show that is Europe. 

2. Onepipe - Embedded finance in Nigeria

• Onepipe has partnered with a selection of incumbent banks to deliver services like payments and lending to non-banks (like retailers or Neobanks like Kudi).  Customers can create accounts via an API and use the APIs for credit underwriting and loan management. Onepipe also allows customers to leverage the bank level KYC for signing up for utilities (like telcos or electricity). 

• 🤔  Where many companies aim to be the Plaid for Africa, Onepipe reminds me most of Treasury Prime. Treasury Prime partners with many banks to help simplify their own internal technology and make it available as APIs for embedded finance use cases. Where a Plaid goes wide, Treasury Prime goes deep. Onepipe is doing this uniquely African way, too, focusing less on cards and more on credit. They're currently in Nigeria but looking to expand geographically with their latest raise. 

3. Jefa - Neobank for women in LATAM

• Jefa is the Neobank by women, for women. Jefa offers free accounts, a debit card, and a mobile app that helps customers manage their money. The defaults of banking in LATAM are hostile to women customers, often with minimum balance requirements, women don't meet. Jefa sees a giant untapped market, often ignored by others, including the largest challenger banks in LATAM.

• 🤔 Digital community banks are everywhere. It has never been faster or cheaper to build and launch a Neobank, which has allowed entrepreneurs to create products that traditional banks would never have.  The trade-off now in Neobanking is between heading towards a generalist "Super App" that aggregates all Fintech capabilities vs. specialist services that go deeper into their customer's context. Accounts for construction companies that use "projects" as their organizing principle are excellent for reshaping the product around the customer context. I'm curious to see which path Jefa (and others like them) pick on the consumer side. Are they an affinity play, or are they reshaping the product?  

4. NFTfi - Use NFTs as collateral for Loans (South Africa)

• NFTfi acts as a marketplace allowing users to lend to NFT owners for a return or borrow against their NFTs as collateral.  If the NFT owner accepts a loan from a lender, ETH is paid from the lender to the borrower. Once the loan is repaid, the asset (NFT) is sent back to the original owner, and if the loan is not repaid, the lender gets to keep the NFT.  

• 🤔 It's a simple escrow service at its heart, with a wallet connector and UI over the top. NFTfi is true peer to peer, so the lender sets the interest rate and made as offers to the borrower, and NFTfi takes a 5% cut of any interest. In a Techcrunch piece, NFTfi said that about 20% of loans default, but borrowers don't mind that; they're receiving an asset they wanted anyway at up to 50% discount.  There's a risk this business benefits from a temporary bubble in NFTs and will go away if NFTs are a fad. If NFTs are not a fad (in my opinion, they're not, especially over the long term), now we have an automated, P2P escrow service the NFT space needed.

Things to know 👀

1. Square is now Block.

Don't be fooled by the rocks that I got, Jack Dorsey's Square is now Block.

• Square is now known as Block (effective December 10th), reflecting its expansion beyond its original card reader business into new technologies such as Blockchain and Crypto.  Square owns BNPL provider Afterpay, music service Tidal and intends to double down on its Bitcoin-focused business TBD. In their statement, Block said the name has meanings like building businesses, neighborhoods, block parties, a section of code, and the Blockchain. The move follows Jack Dorsey leaving Twitter in the past week.

• 🤔 For me, the measure of these group structures is how much the new business lines drive growth in top-line revenues.  When Alphabet was renamed, it wasn't followed by a major change of core revenue for the organization. Google still dwarfs the rest of the Alphabet family. It remains to be seen if Meta will pivot their business model from advertising or see VR as a pivot like mobile was.  

• 🤔 Square has built a two-sided Merchant and Consumer ecosystem that drives growth.  When Cash App launched, many saw it as an experiment and not core to what Square was about. Now many know the game Square is playing to create a two-sided market of consumers and merchants.  

• 🤔 Jack Dorsey has consistently played the long game and conviction to keep investing over multiple years.  He also has a good track record of seeing things early and executing them at a mass scale. Tidal was a struggling music business, but could it be more, especially when you see it in the context of a creator merchant/consumer ecosystem? If anyone can make these "none core businesses" coherent, Jack can. 

• 🤔 Crypto makes total sense for Square / Block to build an alternative global financial rail to the traditional card networks. Square has the brand and a good foothold with consumers and merchants (in the US at least). But it can materially improve its unit economics and global reach with an instant, near-free, global payments rail like the lightning network on Bitcoin. 

• 🤔 My only concern is just how Bitcoin-focused Jack (and therefore Square) are.  Jack is a fully-fledged Bitcoin Maximalist in that anything that is not Bitcoin is not useful in the long term, and all of our focus and effort should be on Bitcoin. While Bitcoin is vital to the development of Crypto, there is just too much innovation happening in the Ethereum and Solana ecosystem to ignore.  

2. David Marcus is leaving Facebook. 

• The head of Payments and Facebook (Meta's) stablecoin efforts is leaving the company. Stephane Kasriel will now run the Novi division (which includes the Libra stablecoin and Facebook's historic payment efforts). David joined in 2014 after a 3 year run as president of Paypal to run messenger, before moving in 2018 to run payments. 

• 🤔 Meta's attempts to launch Diem (the stablecoin) are a case study in how not to innovate as a giant corporate.  Like many corporate innovations, it started as a great idea among a well-motivated group but gradually got watered down.  To be fair to Facebook, they probably didn't expect the scale and scope of the regulatory backlash - but also - any financial services veteran should have seen that coming.  With 2 billion users, Facebook launching its own currency, not dollar-based, would threaten the US dollar and Euro. They also announced it in the middle of the backlash around Cambridge Analytica and election interference. 

• 🤔 Facebook also cannot get its shit together on payments. In a world where every company is a Fintech company, Facebook is nowhere. Facebook pay launched in 2019 in the US, has launched Whatsapp payments in India, and tried to do so in Brazil. Each move received regulatory scrutiny and push back, and given the sheer popularity of Whatsapp, it's staggering that it's not more prevalent in markets like India. Meanwhile, Paytm, Jio, and even Google Pay are significant players. 

• 🤔 Meta has many smart, talented engineers, business people, former regulators, and policy folk, but it lacks a real focus and vision for Fintech.  The recent moves to partner with Shopify and focus on creators are smart. Their position within Instagram and Whatsapp is a massive wedge into other services. But in contrast with Block (AKA Square), there's no clear long game and vision. Novi's home page looks like just another remittance app, same for Facebook Pay. They're getting the low-hanging fruit but could be doing so much more. But that would require real focus when the focus is moving to all things Metaverse and advertising. Yet, in the Metaverse, the economy is intrinsically linked.  I feel for Meta; they're damned if they do, damned if they don't, but need clarity, focus, and persistence. 

Quick Hits 🥊

• Cloud-native core banking platform Thought Machine has hit a $1bn valuation with a new funding round, backed by JP Morgan.  🤔 Thought Machine had a troubled start, going bankrupt on more than one occasion. It was always fantastic software, but it really took off after key implementations with Standard Chartered (which 11:FS also worked on) and then a contract with Lloyds Banking Group in the UK (which included a strategic investment.) The game-changer is getting that first bank live, but often that requires a bank who will invest in getting a platform live. So much of "being live" is optics because it's a spectrum, not a binary thing (as VCs often think it is). But Thought Machine is on that path and trending towards more live, more production, more customers. Congrats to the team for their persistence 👏

• Digital asset custody firm Fireblocks is raising $400m at $8bn with participation from Sequoia.  Fireblocks has customers like BNY Mellon and Galaxy Digital and recently secured former SEC chairman Jay Clayton to the board. 🤔 In the institutional gold rush to digital assets, those selling shovels win. Three years ago, we needed infrastructure to bring the institutions, now the infrastructure is there. The next step is regulatory clarity, which is coming (one way or another).

Good Reads 📚

1. Introducing Aave Arc

• AAVE is one of the most well-known DeFi lending protocols, and the 3rd largest by TVL (total value locked), at $12.75bn. Since its launch in Jan 2020, demand from institutional investors has increased significantly, but they need a version of AAVE that meets their requirements.

• AAVE Arc is an isolated sandbox for institutions that provides an approach for KYC / AML and institutional custody.  The KYC / AML solution works by introducing the notion of "whitelisters" who actively identify and continually monitor the permissioned AAVE market participants. These whitelisters act as guardians of the network and make the permissioned part of the AAVE market compatible with global regulations. The custody that institutions need is provided by Fireblocks. 

• 🤔 I love that AAVE is very thoughtful about protecting true DeFi while accomodating the requirements of institutions.  We need to solve for institutions if we ever pull capital into the global, 24/7 crypto financial system. The obvious way to do that is to copy + paste KYC and AML as it exists in the existing financial system and create some centralized entity that manages it all. The problem is that centralized entities will start to rent-seek and ultimately slow innovation.  By baking in the whitelisters concept to its governance and software, AAVE is accomodating the ability to do KYC without empowering one centralized entity. 

• 🤔 Do we even want regulation?  Arguably regulators are anti-everything the Web 3, and Crypto movement stands for. Central, top-down control of the financial system. But most regulators were created to deal with problems faced by the economy and society. The SEC itself was built to deal with the aftermath of the 1929 stock market crash and the public outcry that "something must be done."  Regulators have a mandate to "protect" consumers, but regulation is a legacy technology that no longer fully fits the digital age.  

• 🤔 "Protecting consumers" has unintended consequences.  By keeping consumers away from risky products, you also keep consumers away from high returns. In the age of 0.5% savings APY and high inflation, "protecting" consumers is not always in their interests. I'd posit the vast majority of social values a role in society that can give do-overs and retries. They don't care as much for decentralization; they care that things work. 

• 🤔 Many regulators are deeply worried about DeFi.  They don't see it as a big or immediate threat, but many (not all) instinctively see the talk of empowerment, privacy, and financial inclusion as bad PR for people who want to get away with criminality. But we have to talk about the material risk and the objectives of financial services regulators.  

• 🤔 Because it's entirely possible to use DeFi for criminality. DeFi operates across many chains that don't have detailed forensics, and if you're a criminal, you can quite quickly move money between different platforms to move the proceeds of crime. But. Crypto forensics has proven its power, and in time DeFi can be more effective than the existing financial system at preventing, detecting, and reporting financial crime.

• 🤔 DeFi is inevitable. But ultimately, its success will require balancing privacy, composability, and the risk of things going wrong. That's a trilemma currently skewed towards privacy and composability, but the rest can come later. I think we can have all three and make a much better alternative financial system in the process.

Tweets of the week 🕊

That's all, folks. 👋

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