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Rise of the Fintechs and Decline of the Banks

By Marius-Cristian Frunza
Weekly Briefs

Over the last decade crypto-currency evangelists have preached the gospel of deregulation in the financial services sector.  They argue that the price of banking services is too big because banks have a monopoly over monetary transfers.

The advocates of deregulation claim that the Unholy Trinity of Banks, Public treasuries and Central banks have exclusive control over all forms of economic trades between businesses and individuals. The various public policies such as banks’ bailouts, quantitative easing or even financial regulation do not inspire much confidence. The solution would therefore be to democratize the access to financial services encompassing payments, money transfers, foreign exchange, deposits, and consumer credits.

With more pressure from regulators, traditional banks fail to offer services at lower prices, but need to strengthen at any price their market position to the detriment of end customers. Clients are forced to overpay both the cost of banks' regulatory capital and the privilege of accessing a service delivered by a quasi-monopolistic system.

Fintechs like Revolut, Monzo and N26 started their journey as technology start-ups and currently propose a full range of banking services for both individuals and businesses, thereby becoming “neobanks”.

Neobanks’ arrival in the banking market is related to the concept of the "invisible hand", introduced by Adam Smith in his book The Wealth of Nations. In a free market scenario where the government does not impose any regulations or restrictions and where suppliers and customers maximize their utility, the market will adjust itself so that customers can buy the best products at competitive prices. If the balance between supply and demand moves away from the efficient price and if the service providers offer prices higher than the purchasing propensity of customers, a correction mechanism will be put in place in order to reduce or eliminate this ineffectiveness. Therefore, each time a critical mass of customers demand services at lower prices, the market will adjust, and suppliers will eventually provide better service at the desired price.

Neobanks are the invisible hand aiming to bring efficiency in the banking sector. They are operating today in well-defined niches, but in the near future they may covet the big banks’ market share.

It is well enough that people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.
Henry Ford, American industrialist

Market overview

US economy seems to reopen faster than expected, with a positive impact on employment creation. The last Labor Department report indicates that non-farm payrolls increased by 2.5 million in May and the unemployment rate shrunk to 13.3% from 14.7% in the previous month. The COVID crisis is keeping a lot of states under lockdown, including California, the world's 5th largest economy. A full reopening could bring even better employment figures and fuel the market rebound.

Investors should take this positive outlook with a grain of salt. The real aftermath of the COVID crisis will come in September when we can assess the number of jobs permanently lost and the number of bankruptcies.

It should be noticed that the Dow Jones is right now at the level where it was at the end of the last summer when the US economy was booming.

Technology companies are expanding slowly but surely into positive territory, NASDAQ  reaching almost its levels before the COVID crisis. The pandemic created a new wave of digitalisation and dematerialisation of the real economy. Investors are supporting this wave, and the momentum could last in the long -run beyond the current circumstances.


British banks in limbo

Markets still believe that a V-shaped recovery is possible. For the banking sector and especially for the UK banks, the post-pandemic world could be L-shaped. Lloyds and RBS shares lost more than 40 % since last year, and the impact of the recent recovery was minimal.  Some of these banks may have a significant amount of high-quality assets, but overwhelming cost structures hamper their profitability. When compared to Fintechs, banks deliver a similar type of services slightly more customer-oriented, but at a much higher cost. They are not adapted to face the ongoing technological revolution, and if they do not restructure quickly, COVID may hammer the last nail in their coffin, which was already tailored in 2008.


Neo-banks are unstoppable amid COVID

Brazil's Nubank reached this week 25 million clients in only seven years after its creation. It became by far the largest neobank in the world in terms of the number of customers.

Revolut, the pioneer neobank will unveil next week its new mobile application. The British unicorn is significantly cutting its staff, a few months after securing a Series D funding for 0.5 billion USD. Monzo, the other big UK neobank is taking similar steps and announces 120 layoffs.

Constrained by the social distancing rule, the leading traditional banks moved fast forward in the digitalisation of their services. HSBC, Barclays and many others are proposing services, requiring minimal human interaction, including on-line onboarding for new clients. It is, without a doubt, a risky strategic drift. Traditional banks are forced to step in the Fintech game, and therefore they may need to undergo through a painful restructuring process.


Private investors on secondary markets

Hectare’s share price on Seedr’s secondary market. Hectare is a leading agri-marketplace  (Souce: Seedrs)

A secondary market is a platform where investors can buy and sell securities from other investors. These trades occur after the security went through an initial public offering. When acquiring a stock traded on a public secondary market, investors and especially individual investors are paying not only for the economic value of the company but also the implicit costs of the public offering and the fees of accessing the secondary market through the bias of broker-dealers. Moreover, individual public investors have not much to say about the listed companies.  They rely on the judgment of the investment banks that underwrote the public offering.

Therefore, despite the widespread belief that public stock market is transparent for investors, there is still a high degree of information asymmetry between big and small players.

Crowdfunding companies like Seedrs that offer a secondary market for private investors introduce a significant paradigm shift. Individual investors can assess from the early stages of the funding, whether the company they are interested in is in good shape or not. The access to such secondary markets is straightforward and does not involve third parties. Liquidity and market efficiency are the significant challenges of these new platforms, but with many VCs and investment funds joining, they could become serious alternatives to the current stock markets. For example, the share price of Hectare, an innovative agri-marketplace listed on Seedrs had a noteworthy evolution on the secondary market over the past five years.


Oil goes from rags to riches

After experiencing the first negative prices in history, the crude oil prices bounced back into positive territory. Last week the Brent crude oil tested successfully the 40 USD resistance level. With the current speed of the reopening and the foreseeable increase in demand from airlines, the Brent price can bolster beyond the 50 USD level. Under the scenario of a strong recovery, supply scarcity may become an issue. During April, when prices were below 20 USD, many drilling and shale operations shut down, thereby diminishing the total available supply capacity. September is a decisive month for the future pattern of oil price. If there is no second wave and the global economy goes back towards some degree of normality, oil could rally towards 100 USD. If this scenario becomes a reality, in these new circumstances, Russia will hold the keys to the oil market.

Market outlook

As predicted, the Brent crude oil remained into positive territory. Bitcoin flirted with the 10,000 USD level, but bounced back towards 9,600. After reaching 27000, the Dow Jones could retreat over the next week due to technical sales.   The likelihood of a second major dip is currently low. The equity market should consolidate around the current levels. The Brent and the Bitcoin should stay into green territory.

General Disclaimer

The information and data published in this research were prepared by the market research department of Darqube Ltd. Publications and reports of our research department are provided for information purposes only. Market data and figures are indicative and Darqube Ltd does not trade any financial in- strument or offer investment recommendations and decision of any type. The information and analysis contained in this report has been prepared from sources that our research department believes to be objective, transparent and robust.

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