Square's Advantage in Rebundling the Bank; NY on Crypto Exchanges; Robinhood and Conflicts; Mastercard Sponsors Video Game -- Autonomous ?NEXT

Hi fellow futurists -- our top 3 thoughts for this week are:

1. ONLINE BANK: Square's Unique Advantage in Rebundling the Bank
2. INVESTMENTS: New York on Crypto Exchanges, Robinhood and the Ethics of Trading
3. PAYMENTS: Mastercard League of Legends Sponsorship and the Censorship of Attention

Analysis of these items is below, and this week’s artist is Piet Mondrian.

ONLINE BANK: Square's Unique Advantage in Rebundling the Bank 

Square has $200 million of balances in its Cash app. At a Recode conferences focused on commerce, Square's CFO suggested that the payments company is thinking about expanding beyond its core competency (enabling long tail merchant commerce) to wrapping the full suite of financial products around those $200 million in balances. That includes savings accounts, investment offerings within the app, in addition to the current capability of buying Bticoin. This is why Square has looked into an ILC license and is expected to take advantage of the OCC Fintech license, once the legal dust has settled. For context, about 66% of banks and 80% of credit unions in the US are below $250 million in deposits, which is roughly 10,000 institutions in total of approximately the same size.

But on the other hand, this long tail has no tech DNA. Square, on the other hand, started out as a hardware solution to empower payment-taking by micro enterprises (e.g., comic book vendors). It now runs at approximately $80 billion in annual volume. It also quickly spun itself into a platform, by building out lending capability for the merchants using its payment systems. Now it originates about $400 million of SME lending per quarter, or $1.3 billion over 12 months, leveraging access to both (1) payment data at the point of purchase and (2) its network of merchants at the moment of financing need.

On the other side of the network, it has built out an active consumer user base of 3 million for its Venmo competitor, Square Cash, which has been downloaded over 30 million times. Adding crypto capability to the app has reportedly added another 6 million to the user-base. This has been a successful financial marketing and customer acquisition strategy for others as well, with Revolut doubling its user-base, Robinhood adding another million, and eToro growing 6 million as well for crypto trading. Unlike the long tail of small banks, these players grok young customers and build the features they want. And unlike the rest of the Fintech apps, Square has a physical hardware footprint and a merchant network that gives its "Bank of the Future" an asset in corporate banking, B2B payments, and various other higher margin activities. So when they talk, we would listen.

Source: Recode (Square Investments), TechCrunch (Square Cash screen), St Louis Fed (Number of banks by size), Statista (Lending)

INVESTMENTS: New York on Crypto Exchanges, Robinhood and the Ethics of Trading

The Attorney General of the New York State just released a report on the integrity, traditionally speaking, of the crypto asset markets. The exchanges surveyed included Bitfinex, bitFlyer, Bittrex, Coinbase, Gemini, HBUS, itBit, Poloniex and Tidex. Notable, it excluded Binance, Huobi, and Kraken who refused to participate -- as well as another 100+ crypto exchanges that operate globally but steer clear of New York. Kraken is known for having rebuked the questionnaire from the Attorney General as overbearing and disrespectful, and at first glance we had agreed that perhaps it was overreach. But after reading through the report, we changed our mind entirely. It has great information and provides transparency around best practices, or lack thereof, helping investors focus on the right concerns and conflicts of interests.

Let's snooze the questions about KYC/AML, poor security or service, and instead focus on conflicts of interest. Unlike in traditional online brokers, crypto exchanges are both a venue connecting parties, broker/dealers that represent trades as agents, proprietary traders for their own accounts, large owners of the underlying traded assets, and also issuers of their own tokens. Why do we care about conflicts of interests like this? Because misalignment leads to rent seeking, corruption and manipulation. Think about the separation between equity research and investment banking that came about after the DotCom collapse (e.g., Henry Blodget). Or something simpler, like an exchange giving better pricing to large institutional traders that can trade ahead of retail sentiment. Or worse, an exchange using its own large capital to trade, creating the impression of volume or price movement. We care about things like this because the retail investor is literally having value transferred out of their pocket into that of an arbitrage robot, unknown and unpoliced so far.

Let's now take a 90 degree turn into Robinhood, the free trading app with millions of Millennial customers eyeing an IPO in the billions. A recent take down article on Zerohedge walked through the start-up's business model. How can you give away something that has hard marginal costs, other than burning venture money? Freemium and selling your customers. On the freemium side, Robinhood does have the margin offering and can earn interest on cash sweep. But on the latter, it certainly does get paid for the activities of its customers in the aggregate. How? By directing order flow (i.e., those millions of little trades for AAPL) to quant trading firms like Citadel (70%) and Two-Sigma (16%). In turn, those firms can use the retail sentiment to make directional bets, or to mask large block trades without moving the market, or perhaps to find another pricing advantage. Robinhood users don't see the costs, but they could be in the execution -- though we note that Robinhood has released a statement re-affirming they deliver best execution. Tense!

Source: New York State (report), Zerohedge (Robinhood), Medium (Robinhood privacy arbitrage)

PAYMENTS: Mastercard League of Legends Sponsorship and the Censorship of Attention

Mastercard has thrown a sponsorship behind one of the most popular e-sport games, League of Legends. We think finance people should pay a little more attention to next-gen attention machines, and competitive video games are a black hole for user growth. As symptoms, we point to the $1 billion acquisition of Twitch by Amazon, or the $400 billion market cap of Tencent with an $18 billion revenue run-rate from its game division. Further, e-sports are growing massively as an audience aggregator, with over 300 million people globally. Some events (e.g., League of Legends finals) command 40 million concurrent viewers, larger than many traditional sporting events (e.g., 20 million for the NBA finals). Perhaps not surprisingly given the Tencent example, over 50% of that attention comes from Asia Pacific.

What does this sponsorship really mean? As far as we can tell, it's a combination of (1) banner branding during the games themselves, and (2) creation of rewards related to the video game in Mastercard's Priceless program. Rewards include behind the scenes access, preferred live stadium seating, and the chance to test-drive computers used by the "athletes" at the World Championships. To be eligible for these scarce experiences, users have to input their Mastercard information as a payment rail directly into the League of Legends game platform. What is there to purchase inside such a video game? Usually cosmetic upgrades and other microtransactions -- $1 billion worth of revenue for League of Legends.

Going back to the Asian fintechs: video games are a gateway to messaging, messaging is a gateway to payments, payments is a gateway to banking, savings, lending, and investments. In addition to those watching these games, there are also 200 million active players in these ecosystems, all of which could become a Mastercard user. Further, starting at the attention end locks people into a brand that they actually like, rather than tolerate. That's why entrepreneurs have been trying to "gamify" finance, not "financialize" games, though such financialization is now happening through tokenization and cryptocurrencies. The last bit we'll leave you with is that Chinese regulators think video games to be such an addictive and powerful vector, that they are working on laws that limits time spent and number of new titles released. A freeze on new release approvals has wiped out over $100 billion from Tencent's marketcap.

Source: Mastercard (Press release), Newzoo (Esports market size), Statista (number of players), BI Intelligence (number of viewers), Fortune (Chinese Video Game regulations), Newzoo (Tencent revenue), PC Gamer (LOL revenue)

Featured

•  DigitalAssetStrategiesSummit.com - Thrilled to chair the Digital Asset Strategies Summit, October 16-17 in Dallas. Check out this exclusive event for financial advisors and family offices on how digital assets should be incorporated into wealth advice.
•  Crypto Challenge Forum - Join me at the world blockchain forum, taking place on 28-30 October at the Central Hall Westminster, London connecting global thought leaders, policy makers, investors and startups from all over the world for a 3 day top content event. 
•  Artificial Intelligence for Financial Services Conference - I’ll be speaking at AIFS EU 2018 in London on November 28. The conference agenda is focused on practical examples of commercialising artificial intelligence applications and overcoming operational challenges.  

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