Will fintech change the face of banking?

Fancy new apps have become popular for everything from making a payment to buying insurance and shares. Should the big banks be worried? Simon Wilson reports.

What’s happening?

In one of the year’s most eagerly anticipated share offerings, China’s biggest fintech business, Ant Group, is expected to list 10% of its shares on the Hong Kong and Shanghai stockmarkets within weeks. If all goes to plan, it hopes to raise $30bn in cash, making it the biggest initial public offering ever in terms of cash raised and  valuing the firm at $300bn. That’s more than the market cap of any bank in the world. Ant, which was founded in 2004 as a payments service on the e-commerce giant Alibaba, has had a profound effect on China’s financial system, boosting access to credit for both businesses and consumers.It has more than a billion active users, and last year handled $16trn in payments, about 25 times more than PayPal, the biggest online payments firm outside China.  

So it’s a digital payments platform?

No. The secret to Ant’s phenomenal growth is that payments are merely a gateway that lets users borrow money, choose from 6,000 investment products, and buy health insurance, among many other things. From its beginning in payments, Ant has built the most integrated fintech platform in the world, says The Economist: “think of it as a combination of Apple Pay for offline pay, PayPal for online pay, Venmo for transfers, Mastercard for credit cards, JPMorgan Chase for consumer financing and iShares for investing, with an insurance brokerage thrown in for good measure, all in one mobile app” that almost everyone uses. Ant has brilliantly exploited the abundance of consumer data in China to build credit-risk models with more than 3,000 variables. It says its automated systems allow it to make lending decisions within three minutes – a “claim that may seem far-fetched, but for Alibaba’s proven ability to handle 544,000 orders per second”. In just the past five years Ant has built its credit business from next to nothing to 1.7trn yuan in outstanding consumer loans, about a 15% share of China’s consumer-lending market.

What exactly is “fintech”?

It’s just a shortening of “financial technology”, but the term is normally used to mean something more specific – namely the range of software and digital technologies developed by (typically) start-up and challenger businesses over the past 20 years or so to provide more automated or non-traditional financial services to tech-savvy customers. This means everything from peer-to-peer payment services to digital payment wallets – and it’s a global development. In southeast Asia, for example, Grab and Gojek, two ride-hailing services, are becoming “super-apps” with financial arms. In Latin America, innovators such as Nubank and MercadoLibre are shaking up the banking sector. And In Europe the biggest fintech player is now Sweden’s Klarna, the buy-now-pay-later finance group. New funding of $650m last month valued the group at $10.6bn (£8.1bn), making it the fourth-largest private fintech in the world.

What about British firms?

Many of the next biggest European players are London-based, including the payments group Checkout.com, which is an intermediary for merchants and other payment providers such as PayPal and Apple; Revolut, one of the world’s most popular “neo-banks”, which has attracted ten million customers with such features as seamless bill splitting, virtual cards, and even stock trading; and TransferWise, a currency-transfer business that has been profitable since 2017 and was valued at £3.9bn following a second funding round in July. Other big London-based names include Monzo, the banking group valued at £1.25bn, and its rival Starling Bank; and OakNorth, a five-year-old start-up valued at £2.2bn, which provides loans of £500,000-£45m to small and medium-sized businesses. It also sells an artificial intelligence (AI) system that helps other lenders decide if they should lend  to a given firm.

How big is the fintech sector?

It’s still a small part of the overall global banking and financial sector – but it is growing rapidly, and as a share of the sector’s total market value, fintech has doubled in value this year alone to around 11%. Conventional banks account for 72% of the value, a sharp fall from 81% at the start of the year, and 96% a year ago (according to data collated by The Economist). And conventional non-bank payment firms (such as Visa) are also growing, and make up the other 17% of the global market value. Investor confidence in the sector took a knock this year from the Wirecard accounting scandal in Germany, but Britain should be one of the winners, says Katherine Griffiths in The Times, due to “its reputation for robust business practices and regulatory oversight”.

How has the pandemic affected fintech?

The Covid crisis has boosted e-commerce and digital payments globally, but hit short-term confidence in the prospects of some fintech firms. For example, digital payments surged by 52% at Venmo, a US network, in the second quarter year-on-year, and by 142% at Mercado Pago, a Latin American fintech. In Africa, many governments declared mobile wallets to be essential services, banning transfer fees. And Santander says that, in the first half of 2020, use of its digital channels rose by 20% in Europe, 30% in South America and 50% in Mexico, year on year. For all that, a McKinsey report published last month warned that the sector faced an “existential threat” from the drying up of funding due to the Covid slump, and should look to partnerships with more conventional players. “Core banking – that is heavily regulated, capital-intensive activities such as running a balance-sheet – makes $3trn in revenue worldwide, and returns on equity (ROE) of 5%-6%,” notes The Economist. By contrast, “freer-wheeling lines of business, such as payments or product distribution, yield $2.5trn in sales but ROEs of 20%. Fintechs are after the tasty bits. But for this, they need banks to stay alive.”

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