Fintech 🧠 Food - December 12 2021 - Congress hears out Crypto, Monzo raises again and why changing finance changes the world.

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 9,849 others by clicking below, and to the regular readers, thank you. 🙏

☀ gm - Happy almost Holidays! It's been quite the year for Fintech. Just trying to keep up with it all has been one heck of a scramble. I don't know about you, but I could use a rest! But it's been a fun ride.

We're dangerously close to 10k of you receiving this newsletter every week, and I couldn't be more humbled. If you know someone who loves Fintech too, why not share this newsletter?

As mentioned last week, this will be my last Fintech Brainfood until next year. Thank you so much for reading, and I’ll be back soon :). Time to be full-time dada.

Weekly Rant 📣

Change finance, and you change the world.

I believe finance and, specifically, Fintech can be a force for good.

(And not in that awful Silicon Valley (the TV show) "change the world" as a thing people say-but-don’t-mean-way)

By 2025 the financial services industry is projected to be worth more than $25 trillion. That's a double-digit % of Global GDP, and it all runs on legacy technology, processes. The financial system we have was built for the 20th century and its incentives are broken.

At its best, finance is a lubricant of the economy in the same way that wine is a lubricant for a great wedding. At its worst, it's incredibly slow, expensive, and not fit for purpose.

The plumbing of the economy is finance.

Money and finance touch everything. If you want to build a school, hospital, business or fund the latest vaccine development, they all require capital.

Everything you see around you, the screen you're looking at, the laptop I'm typing this on all had to be manufactured, distributed and sold to get to you, involving countless payments, lending, and investment transactions behind the scenes. 

Ultimately all of that plumbing creates a tax. Payments are a tax on everything we do; intermediaries are a tax, legacy processes, ideas, cultures, regulation it all adds up. 

If you look at two core primitives like payments and lending, you can see this play out.

Payments

Payments at their best allow money to move at the speed of an email. A small shop in a tiny village can sell to a global market of billions of people. Cash sucks for many people. It only works in your own country, it is heavy, and if someone steals it, you have no way to get it back. Electronic payments are a modern miracle we take for granted.

Payments at their worst are a tax on everything. Someone has to pay for the infrastructure that manages payments and all of that risk management. Helping someone get their money back from fraudsters requires work. Nearly every payment type has some level of cost built into it, cards, FX, wire. And by modern standards, payments are slow. Even in real-time payments markets, the networks tend to be local and not interoperable. 

Lending

Lending at its best serves a real purpose. For businesses, in particular, often getting paid happens after doing something useful, not before. As a small shop owner, you need to create widgets before selling them. Lending helps that happen; the business makes its sales and can pay for the borrowing with its profits. There's nothing morally wrong with lending at its best.

Lending at its worst is predatory. It costs the most for those who have the least and is, therefore, more profitable when targetting lower-income segments. This perverse incentive comes from those with less ability to pay (lower affordability), and less evidence of managing finances well are at a higher risk of default. Lenders solve this by charging a higher APY %, therefore more risk = more profit (Until something goes wrong like a financial crisis.)

Thinking about finance with systems thinking

All complex systems are more than the sum of their parts. The parts interact and relate. Incentives, networks, organizations, and behavior. It is used in biology, art, engineering, and design, but rarely in finance.

One of my favorite ideas is that complex systems have tipping points. If you see the system as a whole (rather than its individual parts) you can identify tipping points (where small changes combine to make a large change). Finance is a complex system full of incentives, networks organizations, and behavior.

I believe that by understanding finance, we can start to see (and even instigate) small changes that might lead to massive changes. Not just in financial services, but the world.

What if we changed the fabric of finance?

I believe if you can change the fabric, the essence of how money works, you can change everything. There are massive social and economic problems we need to solve. From the climate crisis to financial health to preventing human trafficking. If there's a cause you care about, money will be a way to change the outcomes in that cause.

Before you say, "Simon, that's a load of Utopian twaddle," hear me out.

Perhaps the most meaningful thing to happen at COP26 and in financial markets in the past decade more broadly has been the movement toward "ESG" stocks. Investors are voting with their wallets for companies that are good for the planet. Rules set by central banks and rating agencies (like Moody's, S&P, and FTSE Russel) provide an "ESG rating" to stocks. As a consequence, Oil stocks are down; green energy is up. Some of the largest investment houses like Blackrock are actively shifting their portfolio away from carbon-intensive stocks. Changing the rules around finance changed the outcomes we see in the world.

(There are all kinds of issues around "greenwashing" and rating data, but that's a story for another day).

Financial health and inclusion are massive challenges; 70% of Americans live paycheck to paycheck. Globally 1.7bn people have little or no access to financial services or a way to absorb a shock like a bad harvest. Yet here, too, we see tremendous innovation. M-Pesa and mobile money networks built an alternative financial rail allowing millions of people to pay, save and borrow. Earned wage access apps help people get paid early from a Gig economy job and build a savings habit. Alternative infrastructure and much better product design have changed the outcomes we see in the world.

Perhaps the most significant challenges we see in finance relate to the broad category we can "Anti Money Laundering." Ask anyone who's ever built a Neobank or worked in compliance; some of the stuff you see in the middle and back office is horrifying. Fraudsters and scammers quickly attack every new Fintech company. Criminals who are trafficking people into modern slavery and sex work will use the global financial rails because it's often easier than moving cash around the world. The rails and systems we have just were not designed to prevent, detect, and report this kind of crime. In the past ten years, we've seen the emergence of regulation technology (RegTech) that can take what was once an ugly part of a bank's back office and apply data science, product design, and specialism to it. Companies like Alloy, Hummingbird, Comply Advantage, and Unit21 can improve the process, and in doing so, improve outcomes for society. 

All of these areas change the fabric of financial services with:

1. Better rules & incentives

2. Better product design

3. Better regulation processes and technology

But there's so much more to do.

Anti Money laundering is still 99.9% ineffective. The planet is still warming. The vast majority of people don't understand financial basics like compounding, and as a global economy, our financial health is poor. The incentives baked into the fabric of financial services don't serve our goals as a species. We have to change finance.   

And if we change finance, we really can change the world.

I guess this is my call to arms for all of you.

Let's do this

ST.

4 Fintech Companies 💸

1. Gen - Fintech App for Parents and Kids

• Gen allows parents to provide their kids with a debit card that helps them earn money from chores or invest in stocks together. Parents can also send money instantly and "make learning fun" by building games around subjects like compounding. 

• 🤔 The timing for a new multiplayer / family card could be good. The first wave of these products has been around for ten or so years and hit billion-dollar valuations. In my opinion, the level of product innovation in the space has also been limited.  Much of what's missing in these products is helping kids think about investments and compounding through doing. Good product design beats education every time but is incredibly hard to execute. Gen will succeed if kids embrace it. Compounding is the kind of subject every kid should understand, so that would be a huge win for parents everywhere if it works. 

2. Arch - The investment advisors operating system

• Arch allows investment managers to help make new investments, taxes, statements, and the administrative burden they carry on behalf of their clients.  Many investment managers have built their custom software to aggregate thousands of data sources or have complex manual processes to do business.  

• 🤔 Whenever everyone writes the same code, that's usually an excellent place for a SaaS tool to play.  Your heart may not bleed for the investment managers to the wealthy, but they are a massive market and stuck in the 20th century. 

3. Kwara - A Neobank for Kenyan Credit Unions

• Kwara turns credit unions into Neobanks by offering them an admin platform and mobile app combination. The platform handles digital KYC, loan origination underwriting, credit underwriting, and fraud prevention.

• 🤔 Gwera's analysis: Traditional banks struggle to serve a large percentage of the Kenyan market.  Credit Unions (SACCOs) reach communities like teachers, farmers, or police unions and offer tailored services to those groups.  Kwara is essentially upgrading those smaller credit unions into fully-fledged Neobanks.

4. Paytheory - Stripe for Education & Childcare

• Paytheory allows Schools, Childcare centers, kids activities, sports clubs, and healthcare clubs to accept payments online by card, "eCheck," and digital cash.  Paytheory integrates these payments types with existing accounting tools and industry-specific tools like school children's roster software. 

• 🤔 There are now 100s of Edtech platforms being adopted by schools, each of which treats payments differently, causing manual workarounds at schools and other childcare centers. Paytheory is in an interesting spot of "verticalized SaaS for verticalized SaaS." But it's also a potential scaled niche.  Like we see in consumer Fintech where scaled niche Neobanks are gaining traction, we will start to see more of the same in Fintech infrastructure.

Things to know 👀

1. Congress financial services committee holds Crypto hearing

• The Congress Financial Services Committee met with leaders from the Crypto industry to discuss what regulation congress should apply (if any) to the burgeoning industry. While Crypto is regulated from many angles, no single framework governs all of it. Stablecoin issuers Circle and Paxos both supported the idea of federal standards for USD backing (with cash or treasury bills).

• 🤔 This hearing was a very grown-up, sensible back and forth. The hearing lacked much of the aggression and grandstanding we saw in the big-tech hearings with Facebook et al. This is partly because the industry's leadership has put a coherent voice forward. The likes of Circle, Paxos, and former regulator and Bitfury CEO Brian Brooks are pros.   It's also because the industry was galvanized by the infrastructure bill to put its significant recent market gains to work lobbying. 

• 🤔 The politicians are less aggressive than before. Crypto is increasingly a political force and an issue at the ballot box as voters increasingly adopt and use Crypto day-to-day. The combination of lobbying dollars and public interest has forced a change in tone.  In 24 months, we may be in a place where Crypto has more regulatory clarity. It won't all be as nuanced as the industry might hope, but it should finally end the misnomer that Crypto is "unregulated."

• 🤔 The risks in Crypto are real.  Crypto is a global, 24/7 asset class that is far too easy to wash trade and evade taxes. "Whales" can manipulate markets easily at the expense of consumers (and sometimes for fun). 

• 🤔 We need Crypto tech solutions for Crypto risks.  I fear policymakers and regulators will try to copy+paste existing 20th-century rules onto 21st-century technology.  Crypto forensics is a remarkable tool that allows a real-time view into every transaction in the largest Crypto networks like Bitcoin and Ethereum. This is why companies like Chainalysis are reaching unicorn valuations. We're also seeing companies like Sardine AI spin out of early winners like Coinbase to make risk prevention an infrastructure play available to legacy banks, Fintech, and Crypto companies alike. The risk prevention tools in Crypto are 1000x better than in legacy finance.

• 🤔 By far, the most significant risk in Crypto is privacy, not anonymity. Want to see every transaction someone has ever done on Ethereum? Take their .eth address and paste it into Etherescan.  If we're not careful, the world of Web 3 will mean doxing everyone who uses the network (except those with incredible personal operational security). We need much better solutions for consumer adoption of Crypto.

2. Monzo raises at $4.5bn

• Monzo, the UK challenger bank, has raised at a $4.5bn valuation, a little over 12 months after a down round (at $1.2bn) during the pandemic, and reports from its auditor that "it may struggle" to continue as a going concern. It has launched many new features in the past year, including "Flex," its pay later product, and continued to grow users adding more than 100k per month and surpassing 5m customers.

• 🤔 Monzo's infrastructure is a strategic advantage that doesn't get enough attention.  As they continue to scale, their strong unit economics are kicking in. "Monzo spends £2 ($2.64) per active user per year to run infrastructure, 10x lower than incumbents' costs. If you're at an incumbent and you're wondering how to reduce your operating costs by 10x, would it be great if someone knew how they did it? Like, maybe a platform and ventures business that shares founding DNA? 

• 🤔 Monzo was always a great product, but now it's becoming a great business. Deposits increased from £1.4bn to £3.1bn ($4bn).  25% of revenue is from new products. Meanwhile, they increased operating income by 71% and net losses by just 1%. No wonder investors are interested; that's a very positive trend. They remain #1 for customer satisfaction and the 2nd most loved brand in the UK overall. Critically customers using Monzo as their main bank increased from 13% to 18% and continues to trend upward.

• 🤔 Monzo may owe a lot to Brexit since their fee income has been the most significant growth driver, and customers often use Monzo when traveling abroad. Both Visa and Mastercard have increased the interchange available for transacting abroad from 0.3% to 1.5% for UK issuers.  It's fair to say they also saw increased engagement, as customers used their Monzo cards more. So even the customers that aren't switching are driving more revenue.

• 🤔 Monzo's increased feature velocity may allow it to be both the Fintech Super App and a bank.  They intend to add stocks purchases and "explore" Crypto in the following year. Given they have an ultra-low-cost tech platform and a level of customer advocacy legacy banks wish they had. They're well-positioned to cross-sell new revenue-driving features rapidly. Their path to success probably looks very different to the UK incumbents.

• 🤔 Monzo's UX is still among the best in the business.  I'm conscious most of you reading this have never actually used Monzo. But it's the details. Like how splitting a transaction with friends works or that you can pay friends within your proximity.  

Quick hits 🥊

• Mambu raises $266m and $5.5bn.  The cloud-native core banking system that counts N26 and incumbents like ABN Amro as customers say its new round focuses on adding capability for non-banks and works better with the emerging Fintech infrastructure companies (AKA a "salesforce model"). 🤔 Mambu is an OG cloud-native core (founded in May 2011). Playing in "core" takes about five years to get traction and a decade for growth. The core banking software market is a battle of attrition, but those that can pull it off win big. Most legacy banks haven't made a move yet, and there's still much more room in this market; the game is a long way from over.

• Klarna launched a browser extension through an acquisition called Piggy.  Piggy allows Klarna customers to manage payments and apply coupons at checkout for Klarna merchants. Customers can generate a one-time virtual card to "pay in 4" at merchants that don't accept Klarna today. It will also feature cash back and gift cards. 🤔 If it sounds like Honey that PayPal acquired, it's similar but broader. Klarna has its sights set on being the next PayPal or Square. The difference is it has a significant European market presence with its BNPL and merchant acceptance. BNPL remains the ultimate wedge product in Fintech.

Good Reads 📚

1. The Pareto Funteer

• Packy writes about how Web 3 has changed the trade between enjoyment (fun) and money. People may accept more pay for less enjoyable work and vice versa. Packy argues that Web 3 makes money fun and fun into money. Examples could be gamers making more money from playing (play to earn), artists able to monetize what they do globally (NFTs), or communities of people getting together to buy a copy of the constitution.

• The most fun outcome is often the most financially rewarding, and that's new (and weird).  By merging culture and finance, we're potentially financializing culture, but the inverse is true. We're bringing culture to finance. Spending on goods increases at 1.6% a year, but spending on experiences rises at 6.3%. But instead of spending on experiences, people can invest in experiences. Packy leaves with a thought: If jobs like Amazon workers get automated, what will everyone do? 

• 🤔  I read this thinking "Is this just the ultimate top signal that we're in a bubble or the beginning of new business models (and phase of human evolution). " I think both things are true. Crypto and the markets generally are in a bubble that inflation is starting to hurt. But I do not doubt that Web 3 is making new markets and business models, just as Web 2 did.

• 🤔 The "real economy" has real problems, and I sometimes wish all of this energy being spent entertaining ourselves was directed at solving some of that. Climate change, poverty, human trafficking are unfortunate realities that are hard to fix with fun. But what if we could? DAOs are meme and mission-driven.  If we can organize $42m in global crowdfunding in a week with meme's what else can we do if we make it fun?

• 🤔 We're at the "peak of inflated expectations" on the hype cycle. Now is the time when incumbents dabble, but new businesses and business models emerge. Every company is now trying to build its "Web 3" strategy, and I have no doubt countless "McConsultants" and partners are about 3 minutes in front of their clients frantically copy+pasting things Packy M and Chris Dixon write. Also check out the number of new "Web 3 experts" appearing on Linkedin (lol). Many big companies will get it right, but more will get it wrong.  

• 🤔 The critical thing to remember in Crypto and Web 3 is authenticity is everything.  I think Visa is getting Crypto right, and Ubisoft is getting it wrong because Visa came correct.  Cuy from Visa has done all of the Crypto podcasts (including co-hosting Blockchain Insider), they bought a Crypto punk, and when twitter ripped apart some research they did, Visa was excited to learn. Humility matters.  Ubisoft partnering with Tezos to do NFTs (that you can only use in Ubisoft) looks like a blatant cash grab by a company known for its blatant cash grabs. 

Disclosure: Visa also sponsors Blockchain Insider, an 11:FS podcast, where I work and co-founded :)

Tweets of the week 🕊

That's all, folks. 👋

Remember, if you're enjoying this content, please do tell all your fintech friends to check it out and hit the subscribe button :)