What the Hell is a FinTech, Anyway?
Decentralized Finance, or DeFi, has really shined in the past year, and proven resilient during the crypto bear market. If you haven’t been paying attention, there is now a rich ecosystem of blockchain-based, fully-transparent and mostly-decentralized applications that offer lending, saving, trading, market making, derivatives, synthetic assets and even insurance.
MakerDAO, the leader of the bunch and by far the most sophisticated project on the Ethereum platform, recently pulled off a successful transition to version 2.0. It now boasts a $115m loan portfolio backed by close to $350m in assets. It also outputs the most reliable stablecoin in the blockchain ecosystem, one that is always fully backed (unlike Tether) based on sound financial principles (unlike Basis) and doesn’t have any corporate baggage (unlike Libra).
If Maker were a FinTech, the VC community would be tripping over itself to get access. The Fintech Insider podcast wouldn’t stop blabbing about it and PYMNTS would have done an entire series on the transition to multi collateral Dai. But nobody considers Maker a FinTech. If you google “MakerDAO + FinTech” the only hit is the project’s own GitHub.
Most FinTech experts probably don’t even know it exists. That’s not due to size, as Maker is presently at half-Unicorn status. It’s not due to traction either given the over 100,000 different loans the service has already dished out and the hundreds of millions of dollars worth of assets it currently holds as collateral. Maybe the experts are thrown off by the fact that MakerDAO is profitable , violating the sacred notion that the best startups are the ones that lose money today and will lose even more tomorrow.
Or maybe it’s just a lack of imagination. Most FinTechs are nothing more than an old business model using new infrastructure. Stripe is a digital knuckle-buster that embeds into websites. Robinhood is a discount broker with a slick interface (but without the profits discount brokers used to be known for.) PayPal is Western Union using TCP/IP instead of telegraph. Revolut is digitized travelers checks with some random other businesses thrown in (because when losing money is a virtue, you should go into as many random business as possible). Chime is a bank, like any other bank, except that it’s done away with branches, and positive cash flows.
These companies have smart and hard working founding teams and millions of loyal users, for which they deserve credit. They also have the old guard of financial services on their toes to upgrade their systems, which is good for everyone. Some even deploy new tech such as AI in genuinely creative ways. They are incrementally innovative, but only by the standards of existing financial services, an industry that only recently discovered the internet.
Fintechs are far from revolutionary. Most still do what their predecessors have done for centuries — use proprietary ledgers to move client money around or intermediate between savers and borrowers. They have typical management structures and, like those who came before them, gain user trust from reputation and regulation. You, as a concerned client, know as much about what’s going on inside their systems as customers of the First Bank of Wichita did 100 years ago (actually FBW had a banking license, which many Fintechs don’t, so it probably had tighter disclosure requirements). But hey, they use Python, so there’s that.
DeFi projects like Maker are actually different because the root of trust on top of which they are designed is an open, decentralized and censorship resistant blockchain platform. Here is the actual list of every loan Maker has ever given out, open for anyone to see. It’s also the first bank to tell you, Joe Schmo Public, its exact leverage ratio in real-time — a privilege that even the CEO of the hottest challenger bank probably doesn’t have.
Like all DeFi projects, MakerDAO has never discriminated based on race, gender, nationality, income level or any other factor beyond financial qualification. A poor person in Vietnam borrowing a few dollars from Maker pays the same interest rate as a billionaire in America taking down a giant loan. Can your favorite FinTech offer the same?
Then there is the superfluidity of the DeFi ecosystem. Every user can move seamlessly from borrowing to saving to trading to market making to investing in synthetic assets, and from crypto exposure to dollars to gold to the S&P 500, all within a few minutes and for just pennies in fees.
Compare that to the FinTech world where PNC Bank just kicked out Plaid so users can’t cash out from Venmo. That’s problematic for Venmo users wanting to transfer a balance to PayPal, because even though both services are owned by the same company, they don’t interoperate. #innovation
Despite the best efforts of many smart people, the FinTech industry is a lot closer to the legacy financial system than the blockchain-based one. There are projects on Ethereum such as Uniswap for which there is no historical analog. The word innovation has been abused to the point of meaninglessness, but if we are to ever resurrect it, it should mean “that which has not existed before, but should.”
So what the hell is a FinTech anyway? Depends on what you are looking for. If you are looking for easy to understand projects with nice interfaces and fat valuations, look to the traditional names. If you are looking for originality, then it’s time to start paying attention to DeFi. You’ll know you are confronted by actual innovation by how confusing most of the projects will be at the outset. Confusion is a necessary condition of understanding something seminal.
Just as 2019 was the year stablecoins exploded onto the scene, 2020 will be the year DeFi breaks the world, in a great way. Business models will be challenged, the uninformed will be embarrassed and regulators will have yet another freak out. The world will actually change a little bit.
The opinions expressed here are strictly my own and not that of any employer, client or associate. I am a small investor in MakerDAO, but you probably shouldn’t be, unless you fully understand how it works.