economics

PAYMENTS: Chinese WeChat Pay follows Alipay into Western Markets, which could mean tokenized digital finance for all

New attention platforms create the opportunity to re-negotiate market share and consumer behavior in open frontiers. Mobile commerce leverages the increasing attention spent by users in phones to design elegant and high-conversion shopping experiences for anything from clothes to food. Nowhere has this been more successful than China where such shopping and lifestyle experiences are augmented by financial services after the onboarding of a few million customers, making the experience stickier -- a great example of this is China's version of Uber called Didi Chuxing which sells insurance, loans, and wealth product to its 550 million users via its app.

We have highlighted before how eCommerce giant Alibaba's financial arm called Ant Financial has partnered with 7,000 Walgreens locations in the US on accepting Alipay. The business rationale is that Chinese tourists abroad are used to paying with QR codes on their mobile phone and do not have credit cards. This initiative would make the lives of that target audience easier. Tencent's multi-purpose messaging, social media and mobile payment app WeChat Pay seems to be following in its competitor's footsteps, announcing its plans to grow its cross-border business into Europe, in hopes of capitalising on over 16 million Chinese tourists who visit the region each year. The Chinese mobile payment app has already begun to expand its list of merchants within Europe with two of the first examples being Paris-based department store Le BHV Marais, and Schiphol Airport in Amsterdam.

But why should WeChat Pay bother with Western markets? Firstly, 32% of the transactions made by tourists abroad were with a mobile phone in 2018. Additionally, 90% of Chinese tourists admitted that the lack of merchant support in destinations abroad prevented them from using mobile payments. Therefore, growing its merchant network abroad will help boost volumes by a considerable amount. Secondly, mobile wallets pose a direct threat to card networks competing in Europe such as UnionPay, Visa, and Mastercard, who miss out on large chunks of transaction fee revenue as more consumers are enticed by WeChat Pay and Alipay's attractive fees, ease of use, and overall stickiness. In China, such benefits have culminated in 92% of consumers using either Alipay or WeChat Pay. 

Another point we love to make is that the presence of such QR-code based payment platforms would train western staff in retail locations to use QR-codes to process value transfer. Tokenized digital finance enabled by QR-coded mobile wallet platforms -- from key management to open banking to cryptocurrency -- becomes second nature to these new consumer bases. So would it be wrong to cheer these platforms on?

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Source: Autonomous NEXT Analysis (2019 Payments Report), 2018 Trends for Mobile Payment in Chinese outbound tourism (Nielsen), ChinaDaily (Article), Airport Review (Article)

BIG TECH: Subscribing to Unownable Assets with Google Stadia, Apple News, and Taxes

Microsoft, PlayStation and Nintendo split the console gaming market today, with a strong focus on devices and online services. Those companies make money either by selling a piece of proprietary hardware (i.e., the console), exclusive software (i.e., the video game around which they may have IP rights), or through a store that takes a cut of third party developer revenue. Google announced that they are entering the market with a disruptive and orthogonal strategy. The firm plans to use its massive cloud infrastructure and AI advantage to deliver streaming gaming services through a subscription model.

What does this mean? Machines far more powerful than a local console or PC will run sophisticated 3D rendering engines on cloud servers optimized for visual graphics. AIs that optimize data center use and compression will package information transfer in ways that other video game streaming start-ups were simply unable to deliver. On sufficiently fast broadband, millisecond responses between a controller in a living room and a cloud service become possible. While such infrastructure is not ubiquitous, you can see the projected growth of 5G and LTE networks below -- suggesting that Google's vision can be meaningful across a large part of the world. Engaging with a high-end virtual world on a mass-produced cheap tablet becomes a reality. 

Let's talk about subscription. Subscription is the solution for monetizing unownable assets. Such assets may be prohibitively expensive in the aggregate and worthless on the margin. Take for example Spotify, which manages to sell you all the music in the world for $10 per month. An individual cannot afford all the music in the world, and yet the marginal song is worth absolutely nothing. Or take the upcoming Apple News subscription service, which gets around the paywalls of sources like the WSJ for $10 per month as well. A reader can't afford the paywalls for every premier newspaper in the world, even though the value of the marginal article is a donut.

We think similarly about citizenship -- taxes are the subscription cost to membership in a sovereign body, with its social protections, foreign policy, and monetary base. An individual cannot afford those on the margin, nor could those "products" be financed in a case-by-case manner. Or look at the developments in wealth management and roboadvisors, where Assets under Management based pricing (% of total) is beating commission based models (per transaction). AUM fees are a subscription to unlimited rebalancing across thousands of companies, packaged in free-to-trade ETFs on custodian platforms. We go down this road to highlight the right path to follow: all financial services in the aggregate are an unownable asset, but worthless at the marginal product. Price accordingly.

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Source: Polygon (Google Stadia), 9to5Mac (WSJ and Apple), NY Times (Apple News)

BLOCKCHAIN: JP Morgan mints crypto JPM-coin, exposed to $10 trillion opportunity

You know by now that JP Morgan launched a crypto asset called JPM coin. You've probably seen the self-satisfied memes showing Jamie Dimon publicly hating on Bitcoin, contrasted with his own massive bank launching its proprietary, closed cryptocurrency (leveraging open source software created by others) within a year -- and claiming it is a meaningful invention. Perhaps you've read that this is a first-of-its-kind symptom demonstrating that banks are finally coming into crypto. Cool, huh! Yet all of these reactions are mostly irrelevant to thinking about what's happened.  

First things first. JPM has started production deployment of an internal blockchain (i.e., for its clients and divisions), which they have been developing openly for years, applied to multiple use-cases from international payments, to corporate issuance, to trading and other capital markets businesses. This is a no-brainer, and the totality of such projects should create $250 billion of industry-wide enterprise value in cost-savings over the next 10 years. The new thing is that they have added a token into this blockchain that carries digital scarcity, and can therefore be used for international value transfer. As an aside, the UBS utility settlement coin pioneered this type of asset over a year ago, led at the time by Alex Baitlin, who has since left to found smart crypto-custody company Trustology (backed by ConsenSys and Two Sigma).

Who should worry about the inevitable but welcome growing competitive landscape of bankcoins? First of all, consortia players like Ripple and SWIFT (partnered with R3) cannot be happy with the development, since JPM funnels a meaningful portion of the cross-border B2B money movement flow already -- $6 trillion per day. What's odd also is that half a year ago JPM was planning to spin out another proprietary blockchain project (Quorum), since other banks were refusing to use it. The internal value generation within the firm of essentially having a cloud-like solution for value transfer must be sufficiently large to alienate others.

On top of that, let's clarify what bankcoins are. Money supply is divided into M1 (cash and checking), M2 (very liquid cash equivalents), and M3 (more engineered cash equivalents). Bitcoin wants to be cash/M1, which is very hard given that to print money is to be sovereign -- see David Siegel's primer on money in the links below. So in the US, M1 is around $3 trillion. But the delta to M3 is another $10+ trillion, and includes things like money market funds, overnight obligations between investment banks (hey there corpse of Lehman Brothers), repurchase agreements, and other gargantuan liquidity instruments manufactured by banks. In fact, M3 is so obtuse and large that the Federal Reserve stopped publicly tracking it in 2006, and the data only exists on a synthetic basis from ShadowStats. This is what JPM coin is at its core. This is what all stablecoins -- tethered as cash sweep into their respective proprietary exchanges -- can ever become. A paltry $10 trillion.

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Source: CNBC (JP Morgan), Shadowstats (US M3), Wikipedia (Euro Money Supply), Medium (David Siegel on Money), Federal Reserve (M3 Data)

VENTURE CAPITAL: What Goldman-Backed Circle, VaynerMedia and Social Capital have in common

There's a feeling brewing out there, up in the atmosphere. Symptoms are starting to coalesce. And the feeling is: cash is king, venture capital is mis-configured. Maybe something about endless growth in the economy, or maybe a 10 year bull run in the financial markets makes people pause about the current environment. Here are 3 examples: (1) an interview with former Facebook exec and Social Capital billionaire Chamath Palihapitiya, (2) a video by media entrepreneur and centa-millionaire Gary Vaynerchuk, and (3) Goldman's crypto investment Circle. Let's start with the personalities.

Chamath talks about his increasing disillusionment with the VC world, pointing to the current model: encouraging founders to take highly niche bets, then overlevering them with equity capital, forcing unprofitable growth in order to create the narrative of growth, and leading to wild paper gains that subsidize the success of the money manager. Looking at the fintech IPO market, the fall from grace of the American digital lenders comes to mind. Or the private valuations of Robinhood or Acorns. His advice instead is to grow slow but consistently, instead of trying to grow fast.

Gary is not as down on the venture industry, but he does discuss why he is building a media agency rather than a tech company. VaynerMedia runs at several hundred million of revenue, which would be valued much higher at a tech multiple. But his plan is to capture market share in the coming downturn in the cashflow business, and then use that cash to go on an acquisition spree for assets that are now private and over-priced, but will desperately need cash and exits in a drought. A tech garage sale if you will.

Which brings us finally to Circle. We think that historically Fintech has been pretty disadvantaged: cash-cow incumbents were incented not to innovate, disruptors had no cashflow and were highly targeted bets at remaking particular products, mostly pivoting into partnerships. Non-incumbents could not afford to go full stack and remake the industry. Crypto has changed that by making some businesses -- like OTC trading, derivatives, exchanges, media -- incredible cash-cows with billion dollar revenue lines. These revenues won't stick, because they rely either on inefficiently high prices, or unusually high demand spikes. But the risk assets that smart operators -- like Circle and Coinbase -- buy with that cash, really matter. Circle has just bought SeedInvest, an equity crowdfunding platform that it will mash up with its other acquisition, crypto exchange Poloniex, to beef up its STO prospects. Cash is king! Maybe that's why Circle is also pushing that stablecoin with Coinbase. 

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Source: Youtube (Chamath PalihapitiyaGary Vaynerchuk), Bloomberg (Circle), Websites (Circle, SeedInvest)

ARTIFICIAL INTELLIGENCE: Inequality, Unethical Robots and Unemployment

Source: KKR

Source: KKR

Something's going on when MITKKR and Bain & Company all publish on inequality, automation and ethics breaches resulting from technology. The KKR report highlights that GDP growth is likely to slow in the West resulting from an aging population and a displaced worker force due to declining manufacturing employment. Productivity may go up on average as augmented humans become more efficient the work place, but the long tail of regular people who do not have gainful (i.e., cyborg) employment will increase. Re-skilling has not kept up, and the down-case is that 30% of all activities across 800 occupations can be replaced by software. We have argued before that digitization results in 50% revenue declines in industries that are fully transformed. 

The Bain study reiterates the main points -- automation of the US service sector has the potential to be a catastrophic event in terms of human employment (20%+ down), a conclusion previously reached by McKinsey. The corollary is that this will happen much faster than the transitions out of farming and manufacturing. Therefore, volatility in capital markets will increase, driven by the the middle-class being hollowed via the power laws of software and capital rents, thereby negatively impacting many industries targeting them as consumers. And the headline takeaway is a $5.4 trillion GDP shortfall by 2020. Yikes.

And the robots we make aren't even nice to us! In a study of image recognition artificial intelligence systems, top three commercial software packages had an error rate of 0.8% when determining the gender of a light-skinned man, and a 20-24% error rate when analyzing pictures of dark-skinned women. This bias comes from the underlying data, which does not have enough diversity to correctly teach the software, and the bias in the data comes from bias in the development team and organizational culture. Now imagine that such systems are used by police to identify criminal suspects, the way China is doing today. Would discrimination go up or down, if all people of a certain type are imprecisely profiled by software? Or imagine connecting these data sets to access to financial services? 

So what solutions can we imagine to this dystopian television series? Well, one idea is Universal Basic Income, which is being explored in Finland, Scotland, and the UK. Or maybe Amazon and JP Morgan will save us.

Source: Bain

Source: Bain

Source: Bain

Source: Bain

ECONOMY: Which Financial Black Swans Are Scariest?

Source:  SeattleBubble

Source: SeattleBubble

Remember when the markets took a dive of 5% last week and everybody said it was a "correction"? 5% is not a correction, it's a haircut. We reproduce below a few examples of market crashes to give context for what's in store at the end of a poorly managed bullish market cycle sporting several asset bubbles -- let's call it 20 to 40%.

But for the few wizards out there, it's hard to know where the fire starts. So we instead want to point you to three places where there's kindling and smoke. First, the volatility trade. Read this spectacular piece on why the world is far more exposed to being short volatility that may seem. It argues that in addition to the explicit $60 billion shorting volatility instruments like VIX, there is $1.5 trillion in implicit volatility shorts through strategies like risk parity (i.e., assuming we can trust historic correlations and standard deviations), and another $3.8 trillion in share buy-backs that create the illusion of growth and stability. As we saw last week, volatility may not be correctly priced, after 9 years of rising equity markets and low interest rates. During crises, correlations across asset classes go to 1, because end of the day we are just humans trading perceived value.

Second, and this could be a long shot, inflation and unemployment could be much higher than measured according to ShadowStats. This is purportedly due to changes in the approach to measuring CPI in the 1980s and 1990s, which had the net result of keeping entitlements payments in the US lower. Most economists disagree with ShadowStats, and modern efforts like the MIT Billion Prices projects finds that data from large online retailers tracks CPI fairly closely. But there is a non-zero probability that politics has impacted macro economic data. This type of argument supports the gold-bugs and the Bitcoin maximalists. But guess what, Bitcoin's 50% value drop was pretty correlated with the overall market, so it does not appear to be a great hedge in the short run. Because the short run is an ocean of inexperienced sentiment.

And last, younger generations are more heavily indebted than prior ones, especially with persistent student debt. Carrying around this burden implies an additional tax on Millennials which they pay to the government before buying a house or spending on consumption. The cost of this debt is 600 bps higher than the price banks get at the discount window. No wonder Millennials are printing their own money in the form of crypto currency, hoping to inflate away the debt through lottery. What other options are there?

Enjoy the tinfoil hat!

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CRYPTO: Value of All Economic Activity (or Max Bitcoin)

Source:  WSJ

Source: WSJ

Ah, Bitcoin opinions -- it used to be that only geeks cared, then it was millionaries and financiers, and now everybody has one. With the advent of crypto-derivatives, institutional investors can bet on these opinions. You can steal one from this Bloomberg visualization telling us what every "important" business magnate thinks about BTC. Of course, most of these folks have little technical understanding, thereby lacking at least some subject-matter credibility, so why not check out the ground zero of Reddit or BitcoinTalk.

Assign no magic importance to today's price. The only thing special about $10,000 is that it is a round number, made special by the fact that humans are social animals that use shortcuts in their thinking. The growth from $1,000 to $9,839 vs to $11,483 is not meaningfully more or less impressive. Further, BTC can be subdivided into teeny fractions. So owning "1 Bitcoin" or "0.93 Bitcoin" or "0.0001 Bitcoin" is technically equivalent. No argument should be based on the unit. What we need to think about instead is the overall stock, and the best we have today is the total Price x Quantity of about $200 billion. Looking at all crypto, that is trending at $350 billion. But remember that this is also a fragile number -- it is both extremely volatile and also not particularly liquid. If I pay $100 USD for 1 percent of 1 percent or 1 percent of a company, that company would have a market capitalization of $100 million. How confident would you be that, let's say, another party would put in $5 million at the $100 million valuation based on my $100 USD?

So let's go on a numbers adventure. Suspend all disbelief (as you should when trying to take seriously an argument on its own terms), and imagine that Bitcoin is not a cryptocurrency but an inevitable technology that required first the global adoption of the internet. Or put a broader way -- the crypto economy, that uses blockchain as infrastructure, grows according to Moore's law and is not merely a foolish human meme

What can crypto become? See the spectacular visualization from the WSJ. Total US currency in circulation is $1.6 trillion, about 5x the size of global crypto. Total marketcaps on the Nasdaq in the 1999 DotCom bubble reached $3.2 trillion (adding $1.6 trillion in a year prior), which is about 10x. All gold ever mined at today's prices would be valued at $7.6 trillion, let's say 20x. Global foreign exchange reserves are at $10 trillion, or 30x. All equities of all public companies are worth $80 trillion, or 230x, and if we add in all other asset classes including alternatives and real estate, we can get up to $500 trillion. Another way to get to $500 trillion is to get the net present value of global GDP (obviously a silly exercise, but why not). That would be about 1,400x today's global crypto. And if we want to go completely bonkers, we can estimate the statistical value of all human life on the planet -- that would be $5 quadrillion, or 14,000x current crypto valuations. So there you have it. Now you know how much more it can go up, adjust your belief system accordingly.

Source:  Adamant Research    

Source: Adamant Research