Building a bank is easy, building a profitable one is not; Embedded Finance: what it takes to prosper in the new value chain;
In this edition:
1️⃣ Is buy now, pay later a sustainable business model?
2️⃣ Terra Co-Founder Do Kwon Faces Arrest Warrant in South Korea
3️⃣ Ether post-Merge will pay interest and more closely resemble normal financial instruments
4️⃣ Building a bank is easy, building a profitable one is not
5️⃣ Ethereum merge happened, now read this
6️⃣ Is regulation coming to “buy now, pay later”?
7️⃣ Embedded Finance: What It Takes to Prosper in the New Value Chain
8️⃣ Big Firms Dominate Post-Merge Ethereum Validation
9️⃣Tokenized deposits vs Stablecoins
🔟 The UK’s Financial Conduct Authority says FTX may be offering products without authorization
Is buy now, pay later a sustainable business model?
Pandemic lockdowns accelerated the already growing popularity of buy now pay later transactions. But for the operators behind these transactions, margins are wafer thin. So how sustainable is the business model?
Terra Co-Founder Do Kwon Faces Arrest Warrant in South Korea
A court in South Korea issued an arrest warrant for Do Kwon, the founder of the Terraform Labs cryptocurrency ecosystem, whose implosion earlier this year sparked a global crypto rout.
The court in Seoul issued a warrant for Do Kwon and five others on allegations that include violations of the nation’s capital markets law, according to a text message from the prosecutor’s office.
All six individuals are located in Singapore, the prosecutor’s office said. Do Kwon didn’t immediately reply to an email seeking comment.
The unraveling of the Terra platform in May included the collapse of the TerraUSD stablecoin, shaking faith in the digital-asset sector, which has yet to recover much of the losses.
Do Kwon’s followers referred to themselves as “Lunatics” in reference to Luna, another token that was part of the ecosystem he helped to create. He found himself at the center of one of crypto’s biggest blowups when TerraUSD, also known as UST, crumbled from its dollar peg and brought down the ecosystem he had built.
The prices of both tokens tumbled to near zero, a shadow of the combined $60 billion they once commanded.
Terra’s unraveling triggered investigations in South Korea and the US, as well as renewed regulatory scrutiny of stablecoins — digital tokens that are pegged to an asset like the dollar. Stablecoins are a popular vehicle for investors seeking to park cash away from more volatile coins, and they make it easier to move funds onto crypto exchanges.
In July, prosecutors raided the home of Terraform Labs co-founder Daniel Shin as the probe into allegations of illegal activity behind the collapse of TerraUSD deepened.
Kwon has said he plans to cooperate when the time comes. In an interview with crypto media startup Coinage that floated the prospect of jail time, Kwon said, “Life is long.”
Source Bloomberg LP
Ether post-Merge will pay interest and more closely resemble normal financial instruments
The advantage is that Ether post-Merge will resemble more of a traditional financial asset that pays interest, like a bond or a certificate of deposit.
Ethereum’s new process will rely instead on what’s called proof of stake. It does require entities called validators to put some skin in the game in the form of Ether coins. Staking, or putting coins in the pot, gives large Ether owners the right to add a block of transactions to the ledger; they’re rewarded with new Ether when they do so.
To acolytes, staked Ether becomes like shares of stock that generate dividends or bonds that pay a yield. Ether’s yield could be relatively attractive: Owners who stake their coins can get about 4% now, and that’s expected to rise post-Merge. As much as 80% of all Ether supply — about $170 billion at current prices — could eventually be staked, according to ConsenSys, an Ethereum blockchain technology provider.
But there are skeptics. Bitcoin purists believe the massive rush into staking is a waste. “So long as security has a cost, that cost has to come from somewhere,” says Christopher Bendiksen, an analyst at CoinShares, an asset manager.
Still, for existing Ether investors, staked coins will be similar to putting money to work instead of stuffing it under a mattress. The yield feature allows traditional finance professionals who’ve long struggled with valuing crypto assets to perform cash-flow analyses to compare Ether’s performance with that of traditional assets. They can also benchmark staked Ether against other investments.
Staked Ether could also give rise to a slew of financial instruments. Already, in August, the biggest US crypto exchange, operated by Coinbase, announced a derivative token representing staked Ether that users will be able to trade, lend, or borrow. In the future, it may be possible to take out a loan against staked Ether, with interest on the loan paid with staking yield.
There could be wrinkles, of course. Until Ethereum undergoes another software upgrade, likely six months away at least, staked Ether can’t be withdrawn. Even then, withdrawals will be limited. So yield lovers could find themselves stuck, at least temporarily. The Securities and Exchange Commission could also pounce once the coin’s properties shift. Until now, Ether’s decentralized nature — its lack of a formal intermediary — has held the regulator at bay. But the SEC’s current chair, Gary Gensler, who’s repeatedly called the “vast majority” of crypto coins securities, may see Ethereum’s changes as an opening. After all, with staked Ether, people will be investing actual money, one of the key characteristics of a security.
Source Bloomberg LP
Building a bank is easy, building a profitable one is not
Neobanking hasn’t been able to convince all critics, many of which are questioning the segment’s path to profitability.
So how can Neobanks achieve sustainable profitability?
In order to answer this question, let’s revisit the simple equation of profitability. Profits are defined as the excess of revenue over costs, and costs in digital banking are closely linked to scale and the ability to keep marketing costs down. For instance, acquiring new clients in a budget-saving manner. We believe that most challengers have internalized such thinking and have done a great job of reaching a certain scale while keeping customer acquisition costs at a minimum. They’ve done this by mastering digital marketing, using relatively cheap social media channels, and heavily promoting word of mouth to gain new clients.
Where Neobanks are struggling is on the income side. Revenue levels per client often don’t exceed single digits or low double digits per client. Larger jumps in that metric tend to be the exception rather than the norm. Some of the reasons lie in the inherent growth-obsessed DNA of the first Neobanks and their subsequent strategic choices.
Analyzing these priorities, one might argue that most Neobanks have done a fantastic job in creating a disruptive user experience, designing effective hook products, and, subsequently, growing their client base. At the same time, however, they often lack a profitability mindset, have — in retrospect — accelerated geographic expansion too early, and underutilized their capacity to spot emerging product trends beyond their hook offering.
Neobanks need to widen their product offering
Consequently, the value proposition of many players is still heavily focused around two core products:
1. Accounts
2. Card-based payment services
These two core products generate an estimated 70 percent of revenues across the industry. While both are simple and important entry products, they are often loss leaders. This is due to severe levels of competition, limited customer willingness to pay, regulatory caps on interchange fees, and the lack of international travel post-COVID (which has negatively affected transactional revenues).
Other emerging, and more profitable, product trends, have either never been addressed or have been identified too late by the growing segment. Among these potential Neobanking cash cows, four are serious contenders: BNPL or Embedded Finance, Digital Investments, Crypto Currencies, and Digital Mortgages / Digital Lending.
Failing to harness at least some of these revenue boosting products, will make it challenging for Neobanks to become profitable.
Source Simon-Kucher & Partners
Ethereum merge happened, now read this
I really like articles by Matt Levine Bloomberg LP opinion columnist and highly recommend the following article dedicated to Ethereum merge.
In one sense, crypto is in the business of constantly reinventing or rediscovering the basic ideas of financial history, and it is funny for crypto to reinvent interest. In another sense this is cool: Crypto has rediscovered interest from entirely different principles. In traditional finance, you get interest on your money because you are lending it to someone else to build some productive business. In crypto, you get interest on your money because you are getting paid for maintaining the ledger.
It is natural for big centralized crypto exchanges to be Ethereum stakers: They are keeping track of customer money anyway, they care about the ecosystem, they have rails to pay staking rewards to customers, etc. But the exchanges have other incentives: They tend to be big regulated companies located in financial centers; their executives tend to be rich and want to stay that way and avoid prison. They are thus convenient subjects of regulation. Some people in crypto worry that letting them be in charge of confirming Ethereum transactions will mean that the Ethereum ledger itself becomes too subject to regulation.
The idea is that if Coinbase and Binance are confirming all of the Ethereum transactions, and the US Treasury goes to them and says “hey don’t confirm any Ethereum transactions from the following list of Russian-affiliated addresses,” they’ll do what Treasury says rather than risking unpleasantness with the US government. And so the Ethereum blockchain will become a policy arm of the US government (or other governments with power over stakers), like the dollar financial system is. I am not so sure about this worry: Bitcoin mining is also pretty concentrated, including in US public companies, and I suppose that the Treasury could lean on Bitcoin miners to exclude Russian transactions too. But, sure. Centralization exposes crypto to more effective regulation; if a million anonymous users confirm transactions then they’re hard to censor, but if six big exchanges confirm transactions then those exchanges will want to stay on the good side of regulators.
One more point is that if you are a big US-based crypto exchange and you are paying staking rewards on Ethereum, does that make your offering a security that needs to be registered under U.S. Securities and Exchange Commission rules? An interest-paying crypto lending product is probably a security, the SEC said last year, and while it is not exactly rushing to clarify the situation for staking, you might worry. “There is regulatory uncertainty regarding the status of our staking, lending, rewards, and other yield-generating activities under the U.S. federal and state securities laws,” says Coinbase in its SEC filings, and with the Merge that might be a bigger risk.
Source Bloomberg LP
Is regulation coming to “buy now, pay later”?
Consumer Financial Protection Bureau director Rohit Chopra doesn’t think buy now pay later companies should be treated any differently than a credit card when it comes to applying consumer protections.
Chopra’s top concern with “buy now, pay later” is how providers use customer data. The companies say that they collect data that credit bureaus don’t so that they can underwrite customers other lenders can’t.
- But the CFPB is concerned about how the companies might also use that data for marketing purposes. Data about individual users’ attitudes and habits could be used to sell them specific brands’ products. It could also engender repeat usage of “buy now, pay later,” leading to overextension of credit, the report states.
- “In the U.S. we have generally had a separation between banking and commerce. But as Big Tech-style business practices are adopted in the payments and financial services arena, that separation can go out the door,” Chopra warned.
- The CFPB’s biggest focus is on how data can be used to generate more revenue, Chopra told Protocol in a briefing.
The CFPB is also concerned consumers are getting tricked by pay-later providers. The agency listed a slew of potential consumer harms related to whether or not customers know what they’re signing up for.
- The industry is already preparing a defense to these claims. A trade group-commissioned Morning Consult poll released earlier this week found that 94% of users believe they understand the terms and conditions of “buy now, pay later” offers.
- The CFPB’s report found that pay-later providers are not adequately transparent about terms, are forcing consumers to enlist in automatic payments and that at least one company tacked multiple sneaky late fees onto a single missed payment.
- The report also said that BNPL companies were making it difficult for users to dispute charges and repeatedly presented failed charges, which can result in multiple overdraft fees from banks.
- This type of consumer manipulation adds to the risk of overextension, the report states. Back-to-back use of “buy now, pay later” and “loan stacking,” or the use of multiple credit lines at the same time, are two of the ways users might find themselves taking on more debt than they can afford.
It’s decision time for the CFPB.
Source Protocol
Embedded Finance: What It Takes to Prosper in the New Value Chain
Insightful report by Bain & Company.
Four types of participants contribute to embedded finance: the end customer, a platform, a software and data enabler, and a regulated entity. The companies involved have carved out specific propositions, with different ways of interacting.
Bain & Company excluded the following offerings from their research, as they do not meet at least one element of the definition:
• Fintechs and digital banks with new features or products. The platform is a financial institution at its core.
• Cobranded credit cards. The offering is not embedded into the native digital customer journey.
• Closed-loop digital cards or in-store loyalty spending programs. Digitally stored value and loyalty offerings, such as those provided through the Starbucks app, are an edge case; views may differ on whether this meets our definition or not. The offering has been omitted because it is a digitally native, closed-loop prepayment rather than a contextually embedded service with shared economics.
In this report, embedded finance is defined as a nonfinancial software platform providing an adjacent financial service, for which it takes some degree of economic ownership. This allows the platform’s customers to take advantage of a value-added offering within the native customer journey.
Embedded offerings can be built through a continuum of integration patterns — from a deep reliance on enabling partners for infrastructure and domain expertise (known as the “thin stack”) to being entirely insourced and owned by the platform directly (the “full stack”) — depending on the platform’s capabilities and desired risk/reward profile.
Most of these services have a financial core, such as banking, payments, lending, or insurance. Other categories have recently emerged, including compliance (tax, accounting), human capital management (payroll, benefits), and procurement within marketplaces. Embedded offerings can be built through a continuum of integration patterns — from a deep reliance on enabling partners for infrastructure and domain expertise (known as the “thin stack”) to being entirely insourced and owned by the platform directly (the “full stack”) — depending on the platform’s capabilities and desired risk/reward profile.
Source Bain & Company
Big Firms Dominate Post-Merge Ethereum Validation
Many of the benefits promised by the Ethereum merge have come to pass, including a greater-than-99% reduction in energy use and its carbon footprint. But analysts who had raised the alarm over increased centralization before the transition remain concerned that relatively few entities dominate the proof-of-stake mechanism now underlying the blockchain.
“[The] top 7 entities controlling >2/3 of the stake is pretty disappointing to see tbh,” tweeted Martin Köppelmann, cofounder of DeFi platform Gnosis .
He posted a chart showing Ethereum staking service Lido handling more than 27 percent of stake-based Ethereum validation, followed by crypto exchange Coinbase with more than 14 percent.
A recent Dune Analytics report affirmed that the two largest stakers of Ethereum are currently Lido with 4.16 million ETH (30.1%) and Coinbase with 2 million ETH (14.5%). The remaining stakers, classified as “other,” have 3.65 million ETH (26.5%).
Decentralization is a key objective of crypto and Web3. The fact that Bitcoin is “sufficiently decentralized” is the main reason why it has remained outside of the crosshairs of U.S. regulators.
If participation in Ethereum validation becomes too centralized, security experts note, the possibility of a “51 percent attack” becomes more than theoretical. Further, dominant parties could be pressured to censor transactions on the blockchain — although Coinbase CEO Brian Armstrong has said that such a scenario would prompt his company to get out of the staking business.
Some critics have described the merge as a move toward centralization.
Now that Ethereum is based on proof of stake, validators with at least 32 ETH can stake or pledge to the network, instead of relying on miners. Smaller groups can create staking pools to combine their ETH to become validators or join an exchange that offers staking.
“You should not stake with an exchange,” warned Ethereum core developer Micah Zoltu in a recent interview with Decrypt. “It hurts the network rather than helping, and the return on investment at the moment probably isn’t worth it.”
Zoltu recommends users stake their ETH running their own Ethereum node, which Ethereum holders can do on a personal computer. “It is doable by anyone with a sufficiently good computer, electricity, and internet,” he said.
Source Decrypt
Tokenized deposits vs Stablecoins
In theory, stablecoins are digital assets that hold their value, pegged to a specific real-world currency. The idea is roughly equivalent to the way money market fund shares are denominated in $1 amounts to resemble deposits in traditional financial institutions.
In the fast-evolving world of digital assets, terminology and technology both tend to move around. At the beginning of 2022, USDF Consortium, a group of banks working on blockchain solutions for the industry, was calling its “USDF” — U.S. Dollar Forward — a stablecoin. Along the general lines of stablecoins, USDF will be denominated in $1 amounts and held to that.
Indeed, when the cryptocurrency et al executive order came out, some elements of the cryptocurrency and digital asset industry — including USDF — welcomed it as an opportunity to bring some regulatory clarity to an often confusing situation.
‘Tokenized Deposit’ Replaces ‘Stablecoin’
A few months after publication of the executive order, the stability of stablecoins as a sub-industry didn’t look so good.
Partly as a result, the term “stablecoin,” as it had evolved, didn’t fit USDF any longer.
The intent from the beginning had been to create a mechanism to provide fast processing 24/7 of interbank transactions on behalf of customers through the Provenance Blockchain, with additional banking-style transactions coming along, also on that blockchain.
Even before the TerraUSD crash, the consortium increasingly spoke of what it was doing as creating a form of “tokenized deposit.” Among the functions contemplated are business-to-business and person-to-person payments and merchant payments.
How USDF’s Tokenization Process Flows
Such stablecoins are meant to be actively used for buying cryptocurrency and for other types of trading in the digital assets world.
As Robert Morgan explains, “tokenized deposits” are different. “It’s a reference to an existing bank deposit which is held as a liability against an insured depository institution,” says Morgan. “Tokenized deposits are not designed to be purchased at exchanges, but function as an infrastructure layer to make bank payments more efficient.” (There’s another aspect, fractional reserves, that we’ll come to later.)
“For a long time there was a narrative that the value was in the underlying [blockchain] technology, not the coins,” continues Morgan. “But it turns out the coins are still really important, and that’s because the coins are what allow you to ‘talk blockchain’ together.” One such application would be automation of advances on construction loans as a project hits milestones.
The schematic of a USDF transaction — none have happened yet beyond testing as the consortium and members are still navigating regulatory processes — is an evolution of one published on The Financial Brand earlier this year.
Source The Financial Brand
Fintech in Africa: The end of the beginning
Africa’s fintech industry is coming of age. In the face of political and economic challenges and a global pandemic, fintech on the continent is booming. Here’s what comes next.
BlackRock will use Kraken’s CF Benchmarks bitcoin index pricing product for its first crypto offering
The world’s largest asset manager’s bitcoin product will be benchmarked by CF Benchmark’s indexes, the latter company’s CEO Sui Chung told The Block. Last month, BlackRock announced a deal with Coinbase to offer institutional investors access to crypto, and subsequently said it launched a private trust offering exposure to spot bitcoin to U.S.-based institutional clients.
BlackRock did not immediately reply to a request for comment regarding the CF Benchmarks news.
CF Benchmarks is trying to be the MSCI index of the crypto world as interest and demand continue to grow despite the plunge in crypto asset prices. Several other players are creating crypto indexes, including the industry leader, S&P Dow Jones Indices, which created new cryptocurrency indexes last year.
CF Benchmarks is a member of the Crypto Facilities group of companies, a member of the Payward group of companies. Payward is the owner and operator of crypto exchange Kraken Exchange, one of the oldest such platforms.
About five years ago, when CF Benchmarks first launched, it had a single product and one client: the bitcoin reference rate and the Chicago Mercantile Exchange (CME), respectively. The London-based firm now covers clients around the globe, including Hashdex in Brazil and WisdomTree in Europe.
Chung noted a the increasing interest institutions have demonstrated over the past couple of months, compared to even six months ago.
“The understanding of digital assets themselves is much greater than it was, people we talk to now understand the difference between bitcoin and ether,” Chung said. People no longer lump bitcoin and ether into the same bucket and are more aware of the fundamentals of the assets.
The agreement with BlackRock has been in the works since 2021, Chung said.
They wouldn’t launch a product unless there was demand, Chung said. Firms like BlackRock don’t do this sort of thing as a “kite flying exercise, because let’s face it, it’s not a decision that carries no risk.”
Source The Block
Crypto app downloads in Europe have almost halved from 2021
App Radar has analysed how many downloads the top European crypto apps attracted in the first half of 2022, compared with the first half of 2021 (using data from Google Play Store).
The results, shown below, reveal that these ten apps have been downloaded 4.1m times in the first half of 2022 — a 45% drop from the first half of 2021, when they clocked 7.5m downloads.
Only three crypto apps — crypto exchanges Bitstamp, Change and Coinmetro — have bagged a marginal increase in downloads compared to last year.
Wider struggles
It may be no coincidence that the apps that saw the biggest dips in popularity have also been struggling with wider company issues.
Bitcoin mobile wallet BRD saw the biggest decrease in user downloads since last year, plummeting by 97% from 1.6m in H1 2021 to 48k in H2 2022. According to market analysts, its BRD digital assets token — “Bread” — is among the top 14% most volatile cryptocurrencies in the market.
Beleaguered Austrian crypto trading platform Bitpanda saw a 65% decrease in app downloads from 563k in H1 2021 to 197k in H1 2022. In June, the company laid off a third of its employees, admitting that it had hired too fast and needed to cut back expenditure amid the crypto market rout.
The UK’s Blockchain.com, meanwhile, saw its app downloads drop 51% year-on-year. The company recently made layoffs equating to 25% of its global staff and has been suffering from the fallout from collapsed crypto hedge fund Three Arrows Capital Pte Ltd in July.
VCs tell Sifted that the cooler economic climate means they’re scrutinising their portfolio companies’ performance even more than usual.
Metrics like user downloads are one of the key stats they’ll be keeping an eye on as a barometer of growth. Of course, an app download does not necessarily translate to engagement and therefore transactions and revenue. But if the number of potential new user transactions is starting to decline, this will spell trouble for revenue growth — which in turn will affect a business’s valuation.
All this doesn’t seem to have harmed overall VC investment into the sector just yet, however.
Source Sifted
The UK’s Financial Conduct Authority says FTX may be offering products without authorization
The regulator said on Friday on its website that Bahamas-based FTX “is targeting people in the UK,” adding that investors are “unlikely to get your money back if things go wrong” since they won’t be protected by the country’s ombudsman service and compensation scheme.
The FCA previously issued a similar warning about Binance, another major global crypto exchange, and its activities in the UK. Dozens of regulators around the world later put out similar statements about Binance.
A spokesperson for FTX said the firm is aware of the notice, but added that the FCA had listed an incorrect phone number for the exchange.
“We’re looking into it and communicating with regulators; we believe that a scammer is impersonating FTX,” the spokesperson said by email. “The phone numbers listed by the FCA are not from FTX and are listed as a crypto scam.”
Following FTX’s statement, an FCA spokesperson said: “Given the risks to consumers from unregistered or scam firms it’s important we issue warnings as quickly as possible and will issue updates if further information comes to light.”
The UK made permanent its cryptoasset register in April this year, a program that requires firms conducting crypto activity in the country to meet the FCA’s anti-money laundering standards. While some firms like Gemini, Kraken Digital Asset Exchange and Crypto.com are on the register, others such as FTX, Coinbase and Binance are not. All are still accessible by UK consumers.
Source Bloomberg LP
