Open Source Is Finally Coming to Financial Services; There’s a huge misconception that DeFi — failed; FinTech in Web3;
In this edition:
1️⃣ The future of stablecoins is commercial bank money
2️⃣ Paytm’s Quarterly Loss Widens Almost 70% on Costs
3️⃣ There’s a huge misconception that DeFi — failed. It didn’t — it worked great!
4️⃣ Big Crypto’s free-for-all
5️⃣ Most impactful AI use cases
6️⃣ SEC crypto clampdown puts digital asset industry on notice
7️⃣ FinTech in Web3
8️⃣ Reprogrammed Banking > Embedded Banking
9️⃣ Open Source Is Finally Coming to Financial Services
The future of stablecoins is commercial bank money
As the world of decentralised finance continues to grow, there is much demand for a digital currency fit for use in blockchain-based applications with near-real-time, peer-to-peer global settlement that can be used as a medium of exchange.
However, most cryptocurrencies are too volatile for this and there are also issues with central bank digital currencies. CBDCs may not be based on the distributed ledger technology of blockchain or be available for retail use. They might also be slow to materialise.
As a result, stablecoins or e-money tokens have taken off to meet the market’s demands.
Issuers of these stablecoins have thrived while nominal interest rates have been near zero. With high positive interest rates, the opportunity cost of holding zero-interest stablecoins increases and the issuers lose business.
Suppose the issuers could pass on their interest earnings (or costs if rates are negative) on reserves to the token holders on a one-on-one basis. If interest rates are high, stablecoins are a competitive liquid store of value. If they are significantly negative, the issuers’ liabilities shrink along with their reserve; the issuer remains solvent. Stablecoins could be sustainable in all interest rate environments.
There is a problem though, at least for the EU with the Regulation on Markets in Crypto-assets (MiCA) that is expected to come into force in 2024. This proscribes the paying of interest on money tokens. That would force issuers to adopt a business model that is only sustainable with near-zero interest rates.
Like MMFs that seek to maintain a constant net asset value, they would be at risk of self-fulfilling runs if investors rush to sell tokens, triggering further sales. As a result, they should have access to central bank lender-of-resort facilities such as MMFs. This sort of fund sits outside Mica and is allowed. It is telling, however, that one needs to circumvent Mica to design a stable stablecoin.
Tokenised deposits offered by commercial banks are another possibility. Tokenising commercial bank deposits has advantages over alternative stablecoins. They can fall under existing deposit insurance schemes and may qualify as legal tender in some jurisdictions.
Finally, banks have access to the central bank as lender of last resort; widening the scope of assets that the token holders’ funds can be invested in while maintaining sufficient liquidity. If interest rates deviate significantly from zero, stablecoin issuers are likely to apply for banking licences to benefit from the regulatory advantages.
Existing banks will probably introduce tokenised deposits in order to compete. Stablecoin issuers, as intermediaries, will probably be only a temporary phenomenon. What will remain is commercial bank money with enhanced technical functionality.
Source Financial Times
There’s a huge misconception that DeFi — failed. It didn’t — it worked great!
It’s CENTRALIZED finance that failed.
All five of the companies that the reporter listed on are CENTRALIZED. They are just old-fashioned venture-backed start-up companies. They are not DeFi or on the blockchain at all. Just some start-up banking entities that got overleveraged. Very old school failure actually. Nothing new or novel about them.
DECENTRALIZED finance protocols — like Aave, Compound Labs, Uniswap, MakerDAO — all functioned flawlessly 24×7. This crisis proves the opposite of the common narrative. It proves DeFi works great. Way better than centralized finance firms like Celsius, BlockFi, Lehman Brothers, et al.
Those start-ups are just banks that took in short-term deposits and lent long to each other and others. They were 20-to-1 leveraged business models run by mortal humans.
DeFi, on the other hand, is not an empty house of cards. Its foundations are rock solid and totally transparent. DeFi removes human subjectivity in financing decisions. Parties agreeing to conduct transactions openly and transparently on the blockchain, as opposed to backroom deals by opaque, human, potentially-conflicted financial actors, is the vision we should be striving for, rather than clinging on to inefficient centralized financial systems.
More in the article.
Source Pantera Capital
Big Crypto’s free-for-all
In any other industry, a powerful player snapping up several companies in a matter of weeks would warrant at least a tap on the shoulder from regulators. But in the Wild West of crypto, some billionaires appear to be doing just that without scrutiny. Are they tempting fate?
Major exchanges like FTX and Binance have pledged to rapidly expand their footprint through mergers and acquisitions during the current bear market, with FTX’s Sam Bankman-Fried (the “new John Pierpont Morgan”) committing about $1 billion to the cause alone. Each rumor of a business on the brink of collapse seemingly uncovers a new connection to crypto royalty, either as an investor, a customer or even ties through old co-founders.
The question is how much further can this free-for-all last before the long reach of a single executive gets stuck under the microscope. Perhaps it’ll be sooner than we think: Under US President Joe Biden’s executive order, antitrust authorities are set to explore how future regulations can “allow maximum competition,” the country’s former Department of Justice Assistant Attorney General Makan Delrahim told Bloomberg LP TV on Monday.
While some deals can be beneficial for innovation, Delrahim said regulators will need to assess every single transaction on its own merit, just as they did during the dot-com boom. “Big in a capitalist system is not bad,” he added. “Big behaving badly is bad.”
Big Tech itself is wrestling with its own stateside crackdown, and historical probes of past deals are not unheard of — just look at the Federal Trade Commission’s 2020 case against Meta’s acquisitions of Instagram and WhatsApp, which argued the firm was trying to create a social network monopoly. While a degree of consolidation is expected in any market downturn, it’ll be hard to realize crypto’s decentralized utopia if one Supreme Overlord has a finger in all the pies.
Ed Hindi, chief investment officer at Swiss crypto hedge fund TYR CAPITAL, said in an interview Monday that this trend of concentration is “going to create emotional negative feedback” among core decentralization believers at some point. “If you look at the traditional finance model, you’ve got maybe five huge companies. You’ve got Google, Microsoft, Apple, Meta; and they own practically the whole world. How is that different to what’s going on in crypto right now?”
Source Bloomberg LP
Most impactful AI use cases
Whether it’s market forecast, banking personalization, manual work automation, or machine learning-based fraud detection, with a carefully tuned model architecture and sufficient data quality, AI can solve the majority of wealth managers’ challenges. With 78% of organizations already deploying both client and advisory-facing AI-driven technology, it’s a serious test of their digital transformation capabilities and a catch-up game for the other 20%.
Until the advent of augmented analytics and AI, wealth managers had to rely on manual data acquisition and analysis to find potential clients. In that case, decisions were mostly based on conventional metrics like client demographics and net worth. With AI, wealth managers can micro-segment their prospects based on a wider range of data sources including social media, niche news stories, and various public data sources, find new leads, and tailor pitches to them.
Furthermore, an AI system can help companies to connect prospects to relationship managers that share the same interests, are in the same age group, or have had similar clients in the past.
Fostering customer relationships
In the context of wealth management and financial advisory, establishing meaningful connections with your clients is the key to success. We have already entered the new era of clients demanding an increasingly wider range of services and hyper-personalized financial guidance underpinned by flawless user experience.
With AI-powered employee-facing robo-advisory systems, wealth managers can predict what next actions are best in terms of satisfying customer needs. By delivering more meaningful and personalized communication, wealth management firms have a much higher chance of increasing customer loyalty and retaining clients long-term.
Financial advisory automation
In 2020, robo-advisory platforms and other tools to analyze the stock market with machine learning surged in popularity, which can mostly be attributed to the pandemic minimizing physical interaction and causing financial volatility. For example, California-based automated investment service Wealthfront reported a 68% growth in account sign-ups amidst the pandemic.
Notably, Wealthfront’s robo-advisory platform is among the few that provides digital-only financial planning and investment management services. Wealthfront’s underlying AI algorithm analyzes a client’s saving and spending patterns and automatically determines the optimal steps for reaching their financial goals.
According to recent McKinsey research, relationship managers spend up to 70% of their time on advisory-irrelevant activities. This is due to wealth management companies still relying on manual data analysis for asset recommendations, risk and compliance analytics, as well as lead generation.
Source Itransition Group
SEC crypto clampdown puts digital asset industry on notice
US market regulators have put the crypto industry on notice, indicating that they will crack down on violations such as insider trading and fraud with the same vigour at which they pursue them in traditional finance.
In recent weeks U.S. Securities and Exchange Commission has filed charges against individuals for allegedly creating a $300mn “fraudulent crypto pyramid and Ponzi scheme”, as well as a case against a former employee of crypto exchange Coinbase.
Officials at the agency, including its chair Gary Gensler, are wasting little time as this year’s turmoil in digital asset markets has left investors facing big losses. Although large swaths of the market are unregulated, the SEC is using pre-existing rules in traditional finance to police the crypto market.
“In traditional finance, these guys are under a microscope,” said Charley Cooper, managing director at blockchain firm R3 and former chief of staff at the Commodity Futures Trading Commission, the US derivatives regulator. He said, in contrast, many crypto traders were “not paying attention” on the assumption the rules would not apply.
The biggest exchanges say they have longstanding confidentiality obligations on employees. A Binance spokesperson said every employee is “beholden to a 90-day hold on any investments they make and companies leaders are mandated to report any trading activity on a quarterly basis”.
The SEC’s recent cases have also ruffled feathers in Washington, where lawmakers are debating the framework to regulate crypto assets but have yet to reach a consensus.
In the absence of specific rules Gensler has repeatedly pressed for his agency to lead the US’s approach to crypto, arguing that many digital assets are securities. To aid his argument he has cited cases and precedents set in US law decades ago.
And while the SEC stakes out territory, some lawmakers in Washington are also seeking to limit its influence in the crypto industry.
On Wednesday, senators Debbie Stabenow and John Boozman sponsored a consumer protection bill that would give the CFTC exclusive jurisdiction over digital commodity trades. While few expect it the bill to become law, observers say the proposal is likely to influence other legislation in future.
Source Financial Times
FinTech in Web3
Interesting take by Bisola.
This landscape represents the companies in emerging categories in which significant value creation is beginning to accrue in the application of financial technology to web3. However, this is just the start.
We will continue to see further innovations in tooling to support on-chain organisations as existing applications increasingly fail to meet their needs.
KYC — As Know Your Customer (KYC) increasingly becomes Know Your Wallet (KYW), EU regulation has placed a burden on centralised exchanges to collect information on unhosted wallets, or block transfers to them. This will extend to decentralised applications in which certain wallets will be prevented from interacting with dapps if it is a known malicious actor. We have already seen this happen with Tornado Cash using a Chainalysis oracle contract to block OFAC sanctioned addresses. As dapps are forced to meet a higher regulatory standard, a KYC API service is necessary for use by developers to integrate into their applications to handle this regulatory burden, so they can instead focus on their core product.
Subscription Management & Billing — With crypto becoming an increasingly popular tool for commerce by consumers, current billing models are limited in their scope to one-time payments, with alternatives such as volume and recurring based models not at all being possible. Crypto-specific subscription management & billing tools will emerge as solutions for merchants to not only enable their existing business model to move from web2 to web3, but also to help mange and reconcile the differences in fiat and crypto subscription data that both currency types throw off.
Procurement — Permissionless participation in decentralised organisations is a super power that however results in coordination issues, particularly in the acquisition of tooling. DAO procurement tooling typically occurs in non-standard ways, with no clear responsible stakeholder within the organisation to sell to. Given that it is my expectation DAO tooling will mature to become application-specific, i.e. the tooling required by a service DAO, will not be the same as required by an investment DAO; procurement management software for sufficiently large DAOs will become a necessity to help cut through the noise in ensuring it is accessing the best tooling fit for its purpose.
FinTech in Web3 as a narrative will increase in importance as financial activity continues to move on-chain. This landscape serves as a starting point for enterprising entrepreneurs and venture capitalists alike in how they should begin thinking about this new emerging category.
Looming interest rate hikes, Russia’s war on Ukraine and spiking inflation have wreaked havoc on the stock market this year, but these four investing fintechs have picked up millions of customers and billions of dollars in assets despite the turmoil.
Paytm’s Quarterly Loss Widens Almost 70% on Costs
According to Bloomberg LP Paytm, India’s leading digital payments brand’s first-quarter loss widened by almost 70% on higher costs, and reiterated that the company is on track to hit operational profitability by September 2023.
The loss in the April-June period climbed to 6.44 billion rupees ($81 million) from 3.8 billion rupees a year earlier, the company said late on Friday. Revenue rose 89% to 16.8 billion rupees, while total costs jumped 85% to 24.2 billion rupees.
Paytm’s loss was probably also affected by intensifying competition with the likes of Alphabet’s Google Pay, Amazon’s Amazon Pay and Walmart’s PhonePe, and a slew of smaller fintech startups. The company’s shares have crashed more than 50% since its mega $2.5 billion IPO fizzled in November over concerns of a hazy path to profitability.
Paytm’s loan-distribution business has scaled up quickly in the past 12 months, the company said, with the number of loans growing to 8.5 million, a 492% annual jump, albeit from a low base. The value of loans grew almost nine times from a year earlier to 55.54 billion rupees, according to the statement.
Source Bloomberg LP
Reprogrammed Banking > Embedded Banking
Very interesting article Alex Johnson.
The concept of ‘reprogrammed banking’ is simple.
Fintech has atomized banking. We have the building blocks — the primitives, to borrow a term from CS — to create any type of financial product we want. More importantly, we can combine financial services primitives with non-financial services primitives to build SaaS products that can address customer problems that are money-related but not money-exclusive.
However, there are a few examples where we are starting to see some traction.
B2B: Back-office Problems
Small businesses share a common challenge: efficiently managing back-office processes like scheduling, billing, payments, collections, and accounting. Most small businesses are started by people who have a passion for their profession but who don’t necessarily excel in these operational areas. Consequently, they are interested in software that can alleviate their operational headaches.
The trouble is that every industry is different. The back-office challenges faced by a small medical clinic are only superficially similar to the back-office challenges faced by a general contractor. Under the surface, the workflows and datasets are significantly different.
What’s needed are back-office software solutions — for functions like accounting and billing and customer service — that are tailored to the precise needs of the industries that they are serving. These SaaS products need to have financial services components (payments, for example), but, crucially, they are not bank products.
In the case of healthcare and construction specifically, a number of companies are building these types of tailored back-office solutions, including Rivet (healthcare billing and payments) and Siteline (construction billing and payments).
B2C: Relationship Problems
Money plays a foundationally important role in many different types of relationships. It causes couples to fight. It stresses out parents who don’t feel that they’re adequately preparing their children to go out into the world. And it creates a lot of awkward silences between adults and their elderly parents.
What’s weird is that there aren’t any traditional bank products specifically designed to solve these money-adjacent relationship challenges.
A joint checking account will allow both people in a couple to deposit and spend their money, but it won’t help them have productive conversations about their shared financial goals and priorities.
Parents can open a custodial or joint checking account with their teenage child, but that account won’t give them any guidance on how to talk to their teen about money or teach them the financial literacy skills they’ll need later in life.
Fortunately, companies like Zeta and Copper Banking appear to be taking a relationship-centric approach to product design, which is a welcome change and one I hope other founders push the boundaries on even further.
Open Source Is Finally Coming to Financial Services
Until very recently, financial services were notoriously hard and expensive to build. Imagine, instead, that financial services were built with software building blocks like Lego.
From mainframes to banking “as a service”
Due to a combination of the longstanding structural challenges, core banking systems have historically been monolithic, running “on-premise” at a custom and expensive data center within a bank. Today, banking systems are becoming modular layers in the cloud, enabling various components like deposit accounts, credit card issuing, and compliance to be provided “as a service.”
The impetus for further evolution
While software “as a service” has made large strides in rebuilding existing financial products, there’s both the demand from users and supply from developers to modernize banking infrastructure even further.
User demand: Financial services used to be confined to banks, but now any company has the capability to add fintech. As consumer and enterprise companies grow increasingly ambitious in their offerings, they will also require more customizability in their financial infrastructure to develop creative solutions for their customers.
While fintech has traditionally been default local — most banks are driven by country-specific regulations, infrastructure, and consumer payment preferences — many global companies are now adding financial services. As additional global companies look to add financial services, they will need to build global banking applications. Open source could help solve these multi-country woes.
Furthermore, three billion people are still shut out of the financial ecosystem altogether. Around the world, a growing set of highly talented entrepreneurs who deeply understand the needs of these unbanked and underbanked communities are exploring innovative solutions. Immediately accessible open source libraries would undoubtedly speed that progress.
Developer supply: Today, there are thousands of developers seeking off-the-shelf solutions to frustrating, recurring problems. More than 40 percent of banks’ code is built in COBOL, a 60-year-old programming language. Although the majority of fintech companies rely on more modern infrastructure, it is nearly impossible to avoid interacting with this legacy tech. Coding something tedious once is a pain, but developers are finding themselves building the same infrastructure again and again. Any time devs are building something over and over, they will find a way to automate it. Better yet, they’ll open source it, so others in the community can help make it better.
Thousands of developers are currently working on challenging infrastructure problems and are poised to open source their work.
We are on the cusp of the next infrastructure evolution, driven by open source.
Source Andreessen Horowitz