Fintech 🧠 Food - Oct 3rd 2021 - Alloy Raises $100m, Visa is building a Stablecoin to CBDC bridge & why CeFi x DeFi is the biggest trend of 2022

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 8,295 others by clicking below, and to the regular readers, thank you. 🙏

☀ gm

Hi from Barbados. This week has been a whole vacation week, and it's been a blast to say "gm" from somewhere sunny. Fintech could have done me a favor and taken the week off, but no, it went and did all the things.

Speaking of all the things. I'll be speaking at Jack Henry digital on October 11th about why I think Open Banking isn’t just a European thing, and US community banks should take notice. If you’re wondering why they asked a Brit to talk to a bunch of American’s about that, you can register by clicking here.

And I'll be at Empire Startups Fintech week on October 19th in New York (in person!) moderating a debate on “Is Fintech in a Bubble,” with some amazing guests including Nik Milanovic (This Week in Fintech), Alex Johnson (Fintech Takes), Kristen Andersen (Catch), Elle Bruno (Techstars), Matt Burton (QED) and Patricia Kemp (Oak HC/FT). If you want to see what I look like in a judge outfit, tickets are available here.

Weekly Rant 📣

The on/off-ramp to Crypto 

The mood music in crypto changed.

People who hated Crypto have warmed up a little. People who didn't mind Crypto are super enthusiastic about it, and the Crypto nerds have broken through to a whole new level of mainstream.

Part of this has to do with price, but a big part of it is realizing that we're seeing new business models emerge. Maybe short-term, traditional brands only see the marketing benefits. The investors and VCs have arrived in a significant way because they see the business model change for the internet in the long term. Colloquially, the move from Web 2 to Web 3.  

Chris Dixon describes Web 3 from first principles here:

What's happening now is that Crypto is less about finance and more about the future of the internet. It just so happens the future of the internet is about understanding economics, incentives and finance. In a world where everything is tokenized, everything has a value, and everything is tradeable... Everything is Fintech (kinda).

There are two schools of thought for how this plays out.

1. The new Crypto world emerges parallel to the old. It creates a separate economy in which people earn, live, and transact without "off ramping" back into the world of traditional finance and media. This new world becomes a growth engine and, in many cases, bigger than TradFi. My argument for this reality is that Coca-Cola uses the internet; Google exists because of it. If we have a genuinely new phase of the internet (Web 3), we will have Web 3 projects and business models.  OR

2. Fintech is the on/off ramp for Crypto.  Crypto is too hard to use and fraught with risks. The UX of "being your own bank" ends with having your own bank robbery and hacks. Therefore regulated Fintech companies who are great at UX (and already manage your money) are well placed to fill that gap. Indeed, if you look at the sheer volume of users that have entered Crypto from Square, Paypal, and Robinhood, that is a compelling argument. Heck, Coinbase itself is arguably the internet's biggest Fintech onramp more than a Crypto company. 

The reality is some people have gone full Crypto. They live their entire life in Crypto tokens, stablecoins and rarely if ever touch traditional bank accounts. There are Crypto billionaires who struggle to buy groceries, by choice.

While a few will have the goal of going full Crypto and leaving the world of traditional finance behind, I believe that is not what most people or businesses want. Most of us are just trying to get something done. That something isn't necessarily smashing the global financial system as it exists today. It could be making art and distributing it to a global market of buyers, finding our passion, or just feeling a sense of belonging.  

This is the perfect opportunity for me to bring up one of my favorite quotes by F Scott Fitzgerald (the author of The Great Gatsby for those of you wondering).  

I believe both of these futures will play out. Crypto will make new markets and new internet. But that regulated Fintech will play a critical role.

The Crypto learning curve problem 👩‍🏫

It's pretty well accepted that Crypto is hard to use and there are several possible complementary solutions already emerging. We see communities forming around common interests (e.g., art, culture, media, sport). Part of entering that community is a supportive group that teaches people how to be better at Crypto. But the learning curve is still steep. Community is a part of the answer but not the answer.

When it comes to everyday services most users don't care if a service is decentralized; they care if it solves their problem. The job a product has to do isn't to smash the state; it's to help build financial resilience or even freedom. That may go "against the spirit" of Crypto, but it's also just true.

I have no doubt that in time, the whole stack could be decentralized technically, but centralized front ends can solve for users, and regulation.

So perhaps Crypto is a parallel world and the future of the internet where the biggest opportunities belong to the Web 3 and Crypto natives, building new business models. But I believe there's an unfathomably large opportunity in the middle of the Venn Diagram between Fintech and Crypto over the next decade. (Yes, even if Crypto prices crash, long term this trend isn’t going away). 

The DeFi mullet 💈

The fine folks at Bankless created the DeFi mullet meme to describe products that are Fintech at the front and DeFi at the back.

This describes centralized products like a Neobank or Fintech wallet (e.g., Square, Robinhood, or even something like BlockFi) offering products built on decentralized infrastructure. The most common example is the "DeFi yield" apps that have emerged (e.g., Donut, Eco, and Linus) that look like a Neobank / savings product but offer much higher APY %. These products aren't FDIC insured but are beautifully designed and popular with users. As a user, I want a higher APY on my US dollar savings. By depositing with one of these wallets, I can have high confidence I’ll receive upwards of 4 to 5% APR.

Earlier this year, Neobank Current, which has more than 2m customers (and is famous for its partnership with creator Mr. Beast), announced it intends to offer DeFi yield in partnership with DeFi protocol Compound.finance.  

There will be many more products that use a mix of Fintech at the front and DeFi infrastructure at the back in the coming year. We’re just at the start of this trend.

The regulators are coming. 👩‍⚖️

If you follow the news, it seems regulators are keen to ensure Crypto has appropriate levels of control. Whether that's in tax, fraud, or consumer protection, like Warren G said, regulators, gonna regulate.

DeFi has no central entity in its pure form, and nobody is on the hook to ensure regulation is followed. For the Crypto purist, that is the ideal state that an individual can opt-out of traditional finance and government. But for most users, who aren't willing to be their own bank, Fintech can help manage the risks that regulation is designed to prevent. 

Instead of being subject to hacks and having to be their own bank, using regulated Fintech products gives users a level of confidence if something does go wrong. Fintech companies can ensure consumers are "protected" and made whole in the event of hacks.

But perhaps the most significant benefit of “Fintech at the front” is that they prevent us from having to change the underlying DeFi protocols to comply with regulations.

DeFi and Crypto are so powerful because they are permissionless.

I forget who said it first, but the classic example contrasts the building blocks (primitives) of Crypto infrastructure vs. traditional finance this way:

If Robinhood builds a feature, Schwab can't use that feature. In Crypto, if one protocol makes a feature, another one can use it immediately, fork it, upgrade it and remix it. Naval once said in Open Source humanity only has to solve a problem once, this is true for DeFi too. This permissionless innovation is a superpower.

By adopting DeFi, the world of Fintech gets an open source, upgradable, global, 24/7 financial infrastructure and the opportunity to solve more customer problems. While Fintech at the front allows the protocols to remain that, a protocol, not a financial service.

The financial primitives for the next decade 🧱

I'm toying with a mental model for the primitives of finance along the lines of:

• Transfer Value (Pay)

• Receive Value (Collect)

• Store Value (Lock)

• Invest Value (Buy an asset)

• Borrow Value (Receive value for an interest rate)

• Exchange Value (Convert)

Today these primitives can be operated on TradFi rails, and increasingly they can use on DeFi rails. On DeFi, they're global and 24/7. TradFi is slower but has a much higher install base and has strong network effects.

If we take those primitives and lay them across different asset types and entity types (e.g., consumer, SMB, corporate, institution), we can identify countless opportunities to bridge from CeFi to DeFi.

So I think three things will happen:

1. Incumbents like Visa will legitimize the DeFi world increasingly and build bridging primitives 

2. Giant Web 2 Fintech companies will start to bridge their traditional business and DeFi (in D2C and B2B Fintech)

3. New companies will be born in the intersection of CeFi and DeFi specifically to solve these challenges

There are so many products and companies to be built in this gap.

I'd love your thoughts here, so do drop me a line if this subject interests you. 

Before you go, indulge me with a closing thought.

A closing thought. 🤔

A couple of months ago, Dwolla founder Ben Milne wrote a blog that I thought was supremely elegant called the value layer of the internet. The short version is we need a globally accessible primitive for payments. To give a simple example.

Extending Ben's idea imagine:

Countless Fintech companies solve local payment rail challenges with elegant APIs or fantastic open-source primitives, but we lack abstract primitives.

Companies that orchestrate and abstract the pain of the existing underlying infrastructure are well placed to bridge DeFi and CeFi. But they're also well placed to offer global primitives to orchestrate many forms of commerce in the internet native economy.

Something like that would be fun.

ST.

4 Fintech Companies 💸

1. Highnote - Integrated Card Processor & BaaS platform 

• Highnote has vertically integrated a modern issuer processor with Banking-as-a-Service grade APIs.  Because it's an issuer processor, Highnote can offer its customers the ability to differentiate their proposition and create delight by creating unique card authorization controls.  So imagine if you wanted to create a card for fitness enthusiasts that "blocked fast food" with Highnote's APIs, you could make that rule and bake it into your proposition.  

• Issuer processors have a physical connection to Visa / Mastercard rails (examples include Fiserv, Marqeta, or Galileo). These issuer processors may now have APIs, but they're often complex and time-consuming to integrate with. Issuer processors are great at scale and can offer low-cost unit economics. Then there are BaaS providers like Bond, Unit, or Lithic, who are not issuer processors. Instead, they manage partnerships with a processor and a partner bank on behalf of its customers. They improve time to market (and, in most cases, developer optionality) but at the expense of unit economics. Highnote can be the best of both. The team is ex-Braintree and has strong backing. One to watch in a crowded category.

2. Rize - All of the Fintech as a Service providers - as a Service

• Rize aggregates many banks and brokers to allow its users to create more holistic fintech propositions.  Without Rize, if you wanted to make a Neobank that offered deposits and stock purchases, you'd have to build those integrations yourself, then make a way to aggregate that picture for your customer. Rize has the concept of "synthetic accounts" that sit above the underlying financial products to create a coherent view for the Neobank's customer.

• A significant trend in the coming year is remixing the best of Fintech propositions into Super Apps.  Rize lets anyone create Super App-like experiences through a single API (in the US only) and customize workflows for a proposition. This aligns with the 11:FS world view that the proposition sits above the financial products, and you need the building blocks or primitives to quickly make and shape those.

3. Partyround - Gen Z founders fundraising platform

• Partyround, best known for its dank memes and flirting with Twitter personalities, has broken cover as a service for founders to manage to raise.  Partyround works sending documents, signatures, and even payment collections, a fundraise's raw nuts and bolts.  It also has elegant design features like a single URL to send to prospective investors to complete an investment. 

• Partyround is a case study on how to get marketing and community right. Their ability to attract attention and create curiosity has been excellent. Whoever does their social, really gets it. I like that they've gone founder first, focussing on a critical problem; managing paperwork and lots of smaller investors. Not to be outdone, Angelist announced "Stack," which allows founders to incorporate, get a bank account, manage their cap table and funding rounds. Game on :)

4 Cheqd - Verifiable credential marketplace (Web 3)

• Cheqd allows individuals and businesses to monetize their own data. Cheqd uses the Web 3 concept of self-sovereign identity (SSI) to enable individuals to submit or validate a credential to any 3rd party and get paid for doing so.  

• In SSI models, an individual is the custodian of their own data, but any bit of data can be shared as a "credential." The sharing (or validating) of these credentials is recorded in a blockchain (often the Sovrin foundation blockchain). The blockchain acts as an auditor. To bring it to life, imagine you have a credential (e.g., your passport) stored in a private space (like your crypto wallet). That credential was "issued" by a government but could be "validated" by a bank.  Sovrin records all of this in a way that is verifiable but also private. That all sounds great, but why would anyone use it? That's where Cheqd comes in; by creating a token $CHEQ, they're aiming to create a marketplace for credentials.  Keep an eye on this. When Web 3 happens, something like this will eventually be a significant catalyst.

Things to know 👀

1. Visa is building a bridge between CBDC and Stablecoins.

• Visa's research team announced a "Layer 2" settlement network.  Today Visa allows any cardholder to pay at any Visa merchant in any country and manages the link to their underlying bank account. The goal of this new network would be to do the same, but between new networks like Stablecoins (like USDC) and CBDCs (like China's). 

• 🤔 Stablecoins aren't such a dirty word anymore. When Facebook announced Libra (now Diem), every politician and central bank vomited all over it. Control of currency is control of sovereignty, and this appeared to be a direct attack by an already disliked big entity with a population of 2 billion. Since then, Central Banks have poured research into the subject and see private stablecoins as a new way of transacting an existing currency rather than a threat.

• 🤔 Visa has been at the forefront of making Stablecoins acceptable.  It started by allowing Crypto companies to settle (pay their obligations to Visa members) in USDC in March of this year. Moves like this create a massive signal to banks, regulators, and the broader world that this stuff is OK. 

• 🤔 It's not CBDCs or Stablecoins; it's CBDCs and Stablecoins. Arguments online always suppose one token, coin, or approach will win over the others. The more likely reality is all of these futures will need to co-exist. Some countries will suppress Crypto and use CBDCs; others will embrace Crypto and digital assets. At some point, all of this needs to just work.  

• 🤔 If I were advising any government, I'd suggest they lean into the more open and permissionless internet rather than create their own.  The internet has been messy and has been exploited for misinformation and "fake news." But it has created unparalleled economic opportunity and inclusion. That only happens with an open and free internet. The country that embraces the internet native economy (Web 3) has an enormous strategic advantage in the coming decades. In the same way as Section 230 unleashed innovation from 1996 on the internet, a similar act could do the same for Crypto. 

• 🤔 Visa's humility and research-led approach is a playbook for traditional brands approach Crypto.  Visa isn't trying to impose an answer on the market, they're sharing their learning, and in doing so, they've embraced the spirit of the open, transparent nature of Web 3 and Crypto.  Crypto Twitter has jumped all over the research deluging with overwhelmingly constructive feedback.  Yes, there are some critics who still Visa as a centralizing force, but if you look past the noise, you will be embraced and learn at an incredible pace if you come correct into Crypto. 

* Note Visa is a sponsor of 11:FS podcast Blockchain Insider but had no involvement with these comments. These are my views, and this is not a sponsored post. 

2. Alloy raises $100m at $1.3bn.

• Alloy, the identity operating system, has raised $100m, led by Lightspeed Ventures. Alloy started as a simple interface to allow digital identity and onboarding of customers (ID&V and KYC). Over the last 12 months, Alloy has added transaction monitoring and will soon add credit underwriting. Customers of Alloy are the who's who of emerging Fintech companies like Brex, Ramp, and HM Bradley.  

• 🤔 Many bank processes weren't designed; they were imposed, which creates a terrible UX for the user and internal staff.  What's worse is those processes are often not as effective as they could be.  

• 🤔 Over time, Alloy is helping the industry upgrade its risk processes.  Because they're a specialist, they can focus on the product and consistently balance UX and risk prevention. The theme of Today's Brainfood is things that appear opposed but aren't.  You can have good UX and lower risk; it just requires a specialist to focus on it.

• 🤔 Alloy is becoming the platform for all data and risks about an individual for the industry.  It has become a true horizontal "compliance platform," but as it moves into underwriting or fraud, it's also "what else do I need to know about this person or business."  

• 🤔 I'm interested to see if Alloy can move further up into institutional types of KYB and risk management, where processes are even more broken than in consumer or SMB.

• 🤔 Like many US fintech companies, Alloy has such a massive home market it takes a long time for them to leave. I wonder, therefore, if we will see European equivalents to Alloy start to grow. Perhaps the closest is some combination of Onfido and Comply Advantage. As a metaphor, look at the BNPL market, where After Pay and Klarna left their small home markets and expanded into the US and saw massive growth, Affirm is still the US only. Don't get me wrong, Affirm isn't doing badly, but my point is, the Alloy playbook is there for the taking in other Geo's if someone could execute it.

Good Reads 📚

Expert mode one Today, still unpacking it but here's where I got to

1. A model for reputation-based systems 

• Reputation has existed in many forms, from titles in corporations and government to leveling characters in video online games. Humans like to rank things as a mental shortcut to convey status and trustworthiness.  The Twitter blue tick verifies identity on the internet, but it doesn't give us much more. We need to carry our reputation between networks to move to a Web 3 (internet native) economy.

• In the world of Crypto, tokens play two roles, first to signal to others a level of trust, but second to reward the individual with value. Today that often happens with the same token, high reputation = high cash reward. The problem is these tokens are transferable.  Put simply, if someone wanted to spend value they'd earned, they'd have to cash in their reputation (or ownership in a project) to do so.  This piece argues, we need non-transferable reputation tokens and a second spendable token that is rewarded when the status is gained.

• In Crypto projects Today, the largest holders of a token are the ones who were aware of its existence early, but not always the biggest contributor. We need to think about how reputation is earned, managed, and rewarded more deeply.

• 🤔 We're moving into an internet native economy, where individuals can make an excellent long-term living working for several Crypto projects.   This changes how people earn and gain status. Typically contributors are rewarded with ownership of the project (i.e., a Token that acts as a "share"). It functions a bit like sweat equity. We also see some contributors paid in Stablecoins like USDC.  

• 🤔 Web 3 consistently has a different business model from Web 2.  It's fewer ads and data and more ownership.

• 🤔 Today, the default offers people an NFT as a "badge of honor" or status. But NFTs are, by their nature, transferable. As we think about online identity, we need credentials that belong to the individual that achieved them.  I suspect this will come from the Self-Sovereign Identity (SSI) space, more than NFTs. If that happens, the way a person builds their career could look very different in 10 years. Start out by contributing to several DAOs and slowly gaining reputation. Over time, that reputation creates a passive income as DAOs try to recruit individuals and reward them for their historical contributions, etc.

Tweets of the week 🕊

That's all, folks. 👋

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