What is Fintech? The trend towards mobile payments and a cashless economy.

Recently, my wife and I stopped by our local Costco, which was rare for me because I had not stepped foot in a retail store in a while, particularly since the COVID-19 period began.  I was surprised at what I saw.

Rather than the social distancing and other COVID-related protocols that the store had implemented, it was the check-out process that intrigued me. 

Behind a protective plexiglass shield there was an attendant who used a scanning device for all steps in the checkout process - including scanning through the plexiglass our credit card which was displayed on my wife’s mobile phone.

This was a simple illustration of one of the many ways in which businesses and consumers are functioning in a world where a Fintech solution such as for the payment of goods is becoming more and more accepted.  In this example, Costco has instituted both a “contact-less” and “cashless” system of receiving payment, where handing cash to a cashier or even placing a credit card in a reader for payment is no longer necessary.

What is Fintech?

Financial technology, “Fintech” for short, describes the evolving intersection of financial services and technology. Specifically, it refers to any business that uses technology to enhance or automate financial services and processes.

Fintech has been changing the lives of individuals around the globe for many years now, and the current COVID-19 environment has accelerated Fintech innovation and the use of various Fintech applications.

It is no longer a surprise to me when I run across somebody who tells me that they do not even carry cash anymore because they seldom use it.

Millennials and the Gen Z generation, in particular, are attracted to the convenience of accessing financial services on a tech-enabled platform.  In fact, although it might be hard to understand based on how businesses have traditionally operated, there are now more and more businesses all over the country who are no longer accepting cash as a form of payment.

Fintech is one of the fastest-growing technology sectors today, with companies innovating almost every area within finance; from making payments and processing loans to the delivery of services such as preparing and filing income taxes and selecting insurance policies. 

Because of the wide range of Fintech applications that are currently in use or will likely see increased use in the future (cryptocurrency and blockchain technology comes to mind),  the content in this post on Fintech will focus on some of the mobile payments applications and contactless payment options that are currently being used by businesses and consumers around the globe, all which will fall into the digital payments category.

The Evolution of the Fintech Trend

Although the term Fintech is a commonly used buzzword in the business world these days, Fintech has actually been a concept for decades. 

You might recall the time when ATM machines, for example, were first introduced just a few decades ago.  At the time, getting cash from a machine was a cutting-edge form of Fintech innovation.

Shortly thereafter came the Fintech mega trend of being able to utilize the internet for online banking, as well as other financial services such as stock trading and income tax filing.

Fast forward to the last several years where Fintech innovation and the use of artificial intelligence and big data has introduced new Fintech solutions into the global marketplace.  Many of these new Fintech applications primarily originated out of Silicon Valley-based technology companies such as PayPal and Square.

Today, many smaller Fintech startup technology companies have partnered with large financial institutions in order to change the way payments are made worldwide, along with the delivery of other financial services.  JP Morgan Chase, for example, invested $25 million in fintech startup companies in 2019.

Also, following the successful introduction a few years ago by Apple with its Apple Pay and Apple Wallet offerings, several other mega-sized U.S. technology companies, including Google and Facebook, have started to explore various Fintech solutions as well.  With their massive user bases, cross selling various Fintech applications to their current customers obviously has great business potential. 

Despite this, because of their enormous size and the scrutiny that this has brought on many of these technology companies in this current political environment, such attempts to expand another line of business (such as Fintech) would likely entail overcoming a number of regulatory obstacles.

The rapid growth of Fintech

Although you probably do not even think about it, Fintech is likely a part of your personal or professional daily life.  Ernst and Young’s Global Fintech Adoption index recently sited the adoption rate of some form of Fintech solution at almost two-thirds (64%) of the global population, up from 16% in 2015.  According to an Ernst and Young report, three out of every four consumers around the globe used money transfer and payment solutions last year.

In fact, consumers of all ages used cash for payment in only 26% of transactions in 2018, down from 30% the previous year, according to an annual survey published by Federal Reserve System’s Cash Product Office. The decline was even more pronounced among Americans aged 35 to 44, whose use of cash dropped from 32% to 19% between 2016 and 2018.

The Centers for Disease Control and Prevention, as part of its official guidance to the retail sector in response to the current COVID pandemic, have encouraged the use of touchless payment options whenever possible.  Coincidentally, cash withdrawals from ATMs plunged 25% nationwide during the first few weeks of the pandemic, according to industry figures.

The electronics-transfer industry has hailed the growth of a cashless economy as a consumer-driven trend and expects it will continue as the nation adapts to living with the pandemic. In fact, about 27% of business owners reported an increase in contactless payments in March, 2020 alone, according to a survey by the Electronic Transactions Association, a payment technology trade group. 

Despite these trends, as of June, 2019, Fintech had represented only 6%, or approximately $675 billion, of the total global estimated revenue for the financial services industry (International Monetary Fund, “Fintech:  The Experience So Far”).

Fintech is changing traditional “cash transaction” industries altogether

Perhaps you stopped by a Starbucks this morning and used your cell phone to pay for your cup of coffee, or maybe you used the Venmo app to transfer money directly to a friend or family member today.  What do these transactions have in common?  You did not need cash in either case.

In fact, entire industries, many which have traditionally been reliant on cash transactions, have had to adjust their way of doing business in order to adapt to the new digital payments trend.  Take for example, the casino business.

Early in 2020, the casino industry launched a campaign to persuade regulators to allow digital payments on the casino floor as a substitute for cash. The Nevada Gaming Commission has approved rule changes that clear the way for wider use of cashless wagering, and the American Gaming Association, an industry trade group, issued a list of priorities for gaming regulators to modernize payment systems.

Penn National Gaming Inc., which operates 41 gambling properties in 19 states, said that it wants to test phone-based cashless systems in two Pennsylvania casinos with plans to open two satellite casinos next year.

Companies in the retail sector, such as Starbucks were among the first on a nationwide basis to allow consumers to use their mobile app in order to facilitate payments and disintermediate both cash and credit cards.  The Starbucks app allows consumers to transfer money from their bank account or credit card to a digital wallet (described below), which is then used to pay for a coffee or food item.  This method reduces credit card transaction volume and subsequently the merchant fees that the store owner would normally pay.

Amazon recently introduced cashier-less technology in its Amazon Go stores, which allow shoppers to enter a store by scanning an “Amazon Go’ application on a mobile device and exit without needing to stand in a checkout line. Cameras and sensors that are strategically placed throughout the store track which items the customer chooses and then charges them automatically on their mobile device when they leave.  Amazon currently has 25 Go stores across the country with further plans on expansion, including the licensing of this “cashier-less” technology to other retailers and non-retail businesses (www.CNBC.com; March 2020).

Similar to Penn National, Starbucks and Amazon, companies across just about every industry are discovering that using various Fintech solutions is not only providing a better overall customer experience, but is also reducing the cost of doing business.

The declining use of cash

Although there will likely always be a place for cash as a form of payment, its declining market share as a payment medium seems unrelenting.  This is being propelled by a younger generation that is more comfortable not carrying currency while paying for everything with digital wallets on their smart phones or watches. 

Payment companies including PayPal (which owns Venmo), Apple (Apple Pay) and Square (Cash App), just to name a few, have revolutionized how money is sent between businesses and consumers.  The payment applications offered by these companies is making it easier than ever to exchange funds directly with others located anywhere in the world.

Mobile payment options such as Venmo and Cash App are becoming increasing popular with customers as an expeditious and efficient manner to complete payments electronically without the use of cash.  The person-to-person payment option Venmo has become so popular that the phrase “I’ll Venmo You” is now a replacement for “I’ll pay you later”. 

These payment options are typically part of what is known as a larger “Digital Wallet” service offering from the companies.  A digital wallet is a smartphone-enabled financial ecosystem that provides access to a variety of services beyond digital payments.  Those services might include other banking services such as loans and financial planning.

The largest global adopters of digital wallets are currently China and India. In China, the volume of mobile payments has exploded more than 30-fold in just five years, from roughly $1 trillion, or less than 10% of GDP in 2014, to an estimated $34 trillion (nearly three times the size of China’s GDP in 2019).

ARK Investment Management LLC recently noted that the U.S. digital wallet market in terms of equity market capitalization value has the potential to grow from roughly $30 billion today to $800 billion by 2024.  This value is based on an estimated 220 million digital wallet users in the U.S. by 2024, valued at $3,650 a user (which they calculated as the same lifetime value of a traditional banking customer).

Risks of investing in Fintech Innovation

As is the case with any disruptive technology, companies that are capitalizing on disruptive Fintech innovation or are developing technologies to displace older technologies or create new markets altogether can be unsuccessful for a variety of reasons.  There are numerous risks and uncertainties that such companies must navigate through in order to succeed.  Many of these risks are regulatory, while others are market-related obstacles as illustrated in the chart below.

Despite the risks that face individual companies in the Fintech sector, one can surmise by just looking at what is going on around us that the potential impact from Fintech as a business disruptor in our world is ever increasing and that the use of Fintech solutions such as the digital wallet will likely expand in the future.

Based on this trend, it is our opinion at Clearwater Capital Partners that the Fintech sector, in general, as well as many companies who are innovating in this area, should continue to be an attractive investment option with significant potential for growth over the next several years. 

The Clearwater Capital Partners Investment Policy Committee has put significant resources behind understanding Fintech along with many other types of innovative and disruptive technologies.  If you would like to learn more about our thought process behind these topics, please do not hesitate to contact us.

For the next Fintech-related post, we will explore other Fintech applications which are disrupting the global status quo.