International Finance

Fintech: The game changer

IFM_Bay Capital Founder Siddharth Mehta
China became the new epicenter of a revolution in fintech as evidenced by the success of Alibaba and Tencent

In the early 80s, the idea of a network to facilitate a global and seamless flow of information and communication slowly started taking shape. By the next decade or so, the ‘network of networks’ or the internet as we know it today, started becoming popular. Today, we cannot even think about a world without the internet.

Just as the internet has transformed communication and connectivity, fintech is now revolutionizing the world’s banking and financial ecosystem. Fintech’s evolution is a testimony to how it has changed the financial sector and will further disrupt it.

Early days

In the 90s, when the internet started booming, a diverse group of individuals came together to develop a digital payments ecosystem. PayPal was perhaps one of the first entities to provide customers with a reliable system of making fast, effortless and cashless payments. After a roller-coaster journey following early successes, PayPal was eventually acquired by eBay. One of the co-founders and members of the “PayPal Mafia” eventually went on to create Affirm, a prominent fintech player in the BNPL (Buy Now Pay Later) segment.

The early 2000s saw many companies trying to emulate PayPal and offer cashless payment systems. The progress of technology helped them in their endeavor. However, the events of 2008, culminating in the collapse of Lehman Brothers triggered a massive global financial crisis (GFC). Subsequently, general distrust in the banking system saw cash become king again. Resultantly, the digital money ecosystem saw limited traction till the smartphone became ubiquitous.

The smartphone gave a boost to the digital payments industry and electronic wallets acquired universal acceptance. The penetration of the smartphone, even in developing countries such as India, heralded a new age of progress in the fintech space. China became the new epicenter of a revolution in fintech as evidenced by the success of Alibaba and Tencent.

Alipay led the success of the wallet and payments businesses in China. India followed suit with players such as Paytm and PhonePe, along with Government-backed mechanisms such as UPI, leveraging the general consumer’s preference for transacting over the internet, particularly through the smartphone. The emergence of alternate digital currencies (cryptocurrencies) and exchanges has further fuelled the innovation trajectory in the digital finance domain. In 2020, COVID-19 acted as an accelerant to many of these emerging fintech trends. Newer models emerged in lending and banking, including BNPL (Buy Now Pay Later) and neo banking, to move fintech to the next level of innovation.

However, with the exuberance comes to the inevitable excesses and these excesses have been exposed this year. A much-needed adjustment has been brought about to the overall fintech ecosystem.

The purge

The world has been in the midst of a 14-year liquidity binge post the GFC. Every binge inevitably leads to a hangover. Fintech as a sector was also a direct beneficiary of this abundant liquidity in the global financial system. These fintech businesses were seeing their valuations getting inflated on the back of benign liquidity conditions. As the liquidity tap has turned, it has become apparent that many of these businesses were on shaky foundations with sub-optimal business models and cannot continue to function in their current form. We are now seeing significant corrections in valuations.

In 2022, European fintech player Klarna raised USD 6.7 billion USD 800 million at a valuation of USD 6.7
billion, significantly lower than the USD 46 billion valuation that it had touched in June 2021. Likewise, Stripe, the payment processing platform, saw its valuation drop by 64% since its previously marked price. Similarly, shares in publicly listed Affirm, a BNPL player, fell by more than 80% in 2022.

New-age fintech start-ups are now set to compete with large tech behemoths such as Apple and Amazon. The industry is now seeing strategic initiatives, such as Goldman Sachs creating a D2C platform – Marcus, for digital consumer banking. Some of these moves seem to be challenging the traditional take-deposit-give loan model of banking. Amazon for instance is working actively to unbundle traditional banking products and the company remains very focused on building financial services products that support its core strategic goal: increasing participation in the Amazon ecosystem.

Real & significant opportunity in fintech

Businesses need to differentiate through a unique advantage. It is imperative that businesses are focussed on thinking about what is it that truly differentiates them and how durable is the differentiation. Currently, many segments within the fintech ecosystem especially in India have multiple businesses with little or no differentiation. This is undesirable and needs correction.

The future will be about smart AI and further innovations in products/services and customer experiences including hyper-personalization. Voice payments, an AI-powered tool, is likely to be a notable innovation. The Voice Payments Report in 2017 predicted that 31% of US adults would adopt voice payments in 2022, a big jump from 8% then. Three significant factors will reportedly fuel the growth: proliferation of voice-enabled devices, technological improvements in AI, and robust solutions for voice payments. Many financial institutions, payment providers, and fintech players in the US, including Capital One Corporation, PayPal, Amazon, Apple, and Google are actively pursuing the creation or inclusion of voice payment technologies in their offerings.

While the jury may be out on the fate of the crypto ecosystem, it’s base technology – Blockchain, still holds promise. Blockchain technology still has the capacity to bring about newer innovations that will have powerful use cases and applications.

It will also be interesting to see how social media-hosted payment platforms perform. Most interesting would be the way forward for Twitter — after its acquisition by the maverick billionaire Elon Musk. Many observers, including us, would not be surprised if Twitter emerges as a significant fintech player with an embedded payments layer.

The global fintech sector could be entering a period of a renaissance after the adjustments brought about by the shifting global macro environment. While longer-term opportunities from the sector will continue to be present, investors will need to be very discerning and those who will deploy capital prudently from here on will end up delivering outsized returns over time.

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