Investing in the digital economy

Cryptocurrencies have the potential to fundamentally reshape the global financial system. How, then, do investors explore these ideas?

As the digital economy continues to grow exponentially, the financial technology providers with the specialist expertise to help people participate in it are moving centre-stage. These fintechs provide the infrastructure that underpins the way in which digital technologies are changing the way we work, live and play. 

In the UK alone, fintech businesses attracted $11.6bn of investment last year according to the CBI – a 217% increase on 2020 – and the number of billion dollar “unicorn” businesses in the sector more than doubled. And this is a global phenomenon – because the digital economy is expanding fast all around the world, so too are the fintechs that support it. 

Given the achievements already made by fintechs and the prospects for further growth, many investors are excited by the returns potentially on offer from getting in at an early stage. But investing in this aspect of the digital economy is not always straightforward, with pitfalls that could catch out the unwary. Take three areas of the market where investors’ interest is coalescing: 

Managing cryptocurrency risk UK investors have become increasingly enthusiastic about cryptocurrency assets, prompting the Financial Conduct Authority, the UK’s chief City regulator, to publish a cautionary note last month. Investment in these assets is not regulated in the UK, the FCA point out, as market volatility hit the value of many investors’ holdings. 

Cryptocurrencies, for the uninitiated, are digital currencies that are secured by sophisticated cryptography; the best-known example is Bitcoin, but there are many more. Many cryptocurrencies run on decentralised technologies, making use of blockchains – effectively ledgers of transactions maintained by huge networks of computers. 

As recent months have shown, cryptocurrencies can rise and fall with alarming speed, but that is not to downplay the fundamental value and usefulness of digital currency. It provides a means to electronically exchange value with anyone, anywhere, and to do so instantly, with no need to use traditional intermediaries such as banks. The potential is to fundamentally reshape the global financial system. 

How, then, do investors explore these ideas? One option could be to look at those companies leading the cryptocurrency charge, rather than the assets themselves. That could include, among others, companies directly involved in crypto mining, payments, finance, and infrastructure. All of them are supporting the use of digital assets and their associated networks as the foundation for a digital economy. 

Profiting from payments Consumers have got used to being able to settle their bills in new ways that offer greater convenience and reduced stress. Contactless payment is one example: the total value of contactless transactions in the UK increased to £166bn last year according to UK Finance, a 46% increase on the previous year. The growth of buy-now, pay-later financing is another; harnessing new technologies, innovators in this industry are able to offer consumers personalised financing plans at the point of payment. And then there are mobile payments, with millions of people now using their phones to pay for goods and services, dispensing with bank cards and cash altogether. 

All these payment capabilities require innovation and infrastructure from payments companies focused on facilitating communication, commerce and collaboration. It is easy to start taking them for granted very quickly given their mass adoption, but they wouldn’t exist were it not for the disruptive influence of fintech businesses that have developed the necessary technology. 

These include businesses that have become household names, such as digital payments processor Paypal or the British challenger bank Revolut, as well as newer entrants such as Coinbase, one of the most popular cryptocurrency exchanges. 

Switching to digital first Traditional businesses in the financial services space are naturally keen to play their part in innovation – and to offer their own customers new digital products and services. However, while these businesses have launched initiatives in areas ranging from online banking to mobile apps, these have to be bolted on to their legacy technologies and systems; inevitably that holds them back. 

Digital-first businesses in the fintech sector, by contrast, have been able to develop their products and services from scratch. They’ve been able to build networks, protocols and other infrastructure specifically for the purpose of delivering digital economy products, rather than having to retrofit systems that were developed for an analogue age. 

From an investment perspective, these digital-first businesses feel particularly alluring. The digital economy will feature a broad range of financial institutions, including incumbent providers, but newer fintechs are likely to benefit from greater agility and flexibility. 

Against this backdrop, the key for investors will be to think about which companies are best-placed to power the transition to the digital economy – and the right way to secure exposure to those businesses. 

“The digital economy represents a fundamental reimagining of the global financial system to a new paradigm that harnesses the speed, convenience and capabilities of modern financial technology,” says Michael Sonnenshein, CEO of Grayscale Investments, an asset manager focused in this area. “Our own Grayscale Future of Finance UCITS ETF is one product that aims to capture these themes in a single convenient fund, but there are many ways for investors to receive exposure to this global megatrend.”

HAN ETF QR code

• Find out more at www.hanetf.com/grayscale

Recommended

The MoneyWeek Wealth Summit this Friday - everything you need to know.
Investment strategy

The MoneyWeek Wealth Summit this Friday - everything you need to know.

Andrew Van Sickle runs through the speakers and topics under discussion at the upcoming MoneyWeek Wealth Summit. Everything you need to know about inv…
24 Nov 2022
Investing in a recession: 5 moves investors should make now
Investment strategy

Investing in a recession: 5 moves investors should make now

As we enter a recession, here’s what investors should do with their portfolios.
23 Nov 2022
15 ways bitcoin makes the world better
Bitcoin & crypto

15 ways bitcoin makes the world better

What problem does bitcoin solve? How does it make the world better? Dominic Frisby shares his view.
23 Nov 2022
What is a deficit?
Too embarrassed to ask

What is a deficit?

When we talk about government spending and the public finances, we often hear the word ‘deficit’ being used. But what is a deficit, and why does it ma…
18 Nov 2022

Most Popular

Wood-burning stove vs central heating ‒ which is cheapest?
Personal finance

Wood-burning stove vs central heating ‒ which is cheapest?

Demand for wood-burning stoves has surged as households try to reduce their heating costs this winter. But how does a wood burner compare with central…
21 Nov 2022
Fan heater vs oil heater – which is cheaper?
Personal finance

Fan heater vs oil heater – which is cheaper?

Sales of portable heaters have soared, as households look to cut their energy costs. But which is better: a fan heater or an oil heater? We put them t…
21 Nov 2022
Santander launches new bank account – is it any good?
Bank accounts

Santander launches new bank account – is it any good?

Santander’s new accounts gives you up to £20 cashback a month and 4% interest rate on savings.
25 Nov 2022