Fintech SPACs, Digital Banks, Digital Assets and Lenders Dilemma
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A Note from Paddy
Billion dollars of SPACs raised for Fintech acquisitions, segment-specific digital banks getting funding, real estate lending on fire while small business lending fintechs exit in firesales, and Blockchain or Decentralized Finance (DeFI) demystified (again) and why Bitcoin as an inflationary hedge in apocryphal.
The Future of Digital Asset and Decentralized Finance (DeFi)
There are broadly three camps in the DeFI world with very different views of how Blockchain or DeFI systems will evolve:
The Bitcoin as the ultimate inflation and apocalypse hedge camp (a variant of this focuses on the broader cryptocurrency space than just Bitcoin) - an alternate financial infrastructure
The enterprise or permissioned blockchain camp creating more efficient financial services
The naysayers who say a database can do what a blockchain does much better and faster
All have a point but each camp misses the holistic view and the limiting factors that are in play. Let me explain.
Bitcoin value will drop with more stable coins and CBDC initiatives.
In a decentralized network like Bitcoin, the value of the network increases with more participants or nodes. The value is accretive to the network as a whole and typically early adopters get the larger share of the value addition. For example, the first 100 buyers of Bitcoin have better returns Vs. the first time buyer today. Bitcoin intrinsically does not have any utility nor does it have any value (say in comparison to a precious metal like Gold) and is of finite quantity by design. It has no yield so its value entirely depends on demand and the number of people buying into it. This explains why (if you are on Twitter or other social media where this is discussed you’d know what I am talking about) the folks who have bet on Bitcoin already keep promoting it as the next best thing since Gold (literally) as they stand to gain the most. While some believe its potential (like a precious metal) hedge against inflation and as an apocalypse hedge (like a COVID-19 like crisis creating hyperinflation or another dire economic state). I don’t buy into this. The value of a currency like the US Dollar is not because of the Federal Reserve’s monetary policy but the strength of the US economy, the faith in its people and system of government, and other aspects that mitigate systemic risk. I just find the Bitcoin whales and bulls position of it being a hedge as apocryphal and self-serving to their interest.
As to the other camps, I think the answer lies in computational economics. Decentralized networks in finance and commerce will work best where the cost of building consensus and proof of work is less than the cost of centralization. Computer speed/network bandwidth and loss/fraud in the network would be a threshold determinant for viability. Consensus and proof of work are inefficient especially in large multi-node networks. In conclusion, we will see more Defi governed by the valuation principle and the cost of consensus principles outlined above. I am planning to write some more about this topic but am interested in hearing from you.
Digital Banks and Banking as a Service (BaaS)
We noted the different flavors of digital banks and posited the potential convergences into a lifestyle app in our last newsletter. August had some new segment-specific or lifestyle apps for certain segments closing their Series A funding rounds. Notable are Copper, a digital bank with financial literacy focus for teens and Purple, a tech focusing on the needs of special needs individuals or individuals with disabilities. These deals underscore the overarching point around digital banking and payments being part of an overall lifestyle app that banks and challenger banks should take heed. While the same monetization principles of deposits or assets and transaction (interchange) apply to the digital bank, engagement becomes a key differentiator which ties back to the lifestyle metaphor.
The Lenders’ Dilemma
COVID-19 may have been the final straw but the lack of breadth and diversification for monoline small business lenders like OnDeck and Kabbage saw both those fintech poster children being bought out on fire sales. The story is quite different on the real estate lending side. The low-interest rate environment and what appears to be a migration from Metros saw huge valuations for Blend ($1.7 Billion), and huge premiums for Optimal Blue and Ellie Mae (April 2019 purchased by Thoma Bravo for $3.7 Billion and on Aug 2020 purchased by Intercontinental exchange for $11 Billion). Most of these valuations are transaction-related rather than the return on asset reinforcing transaction revenue driving fintech valuation.
Investors Corner and SPAC Watch
Special purpose acquisition company (SPAC), aka blank check firms, are in vogue these days. SPACs work by raising capital first and then shopping for a private company to buy (or companies) in a specific area. They are an alternate path than the more rigorous IPO for private companies to raise public capital. There were some SPACs in fintech dating as early as 2015 but this year has seen several new SPACs in Fintech. There are at least 60 fintech Unicorns (including about five with over $10B in valuation) with a collective valuation exceeding $100 Billion. SPACs can provide some of these unicorns liquidity and additional capital to scale organically or through M&As and a path to a public listing like the recent BankMobile acquisition by the Megalith Financial Services Acquisition (MFAC). We will be tracking and bringing you SPAC activity in fintech and technology in our newsletter going forward including which companies maybe target.
Founder and Managing Director of iValley Innovation Center
Host of FINTECHTALK™
The Convergence of Digital Banks and Lifestyle Applications and Variations Around the Globe
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