How VC Investments in Fintechs Are Ushering in a New Era of Finance
The world of fintech is constantly and rapidly evolving
- Written by Nayan Ramani
The ubiquity of smartphones has allowed startups to revolutionize finance with real-time payments and peer-to-peer lending, while AI-driven algorithms change the face of investment and portfolio management. Successful fintechs are democratizing access to finance by bringing historically unbanked people into the financial system and enabling cheaper, real-time access to credit compared to traditional banking.
As new generations of fintechs emerge, venture capitalists (VCs) are taking note and pouring billions of dollars of investment into these startups. In 2021, VC firms invested over $130 billion in fintech startups globally—a record for the industry, representing a staggering 20 percent of all VC funding that year. While many will ultimately fail, the blockbuster success of companies like Stripe, Klarna, and Plaid can provide VC firms with a substantial return on investment.
Fintech investment still leads
According to a CB Insights report, fintech’s banner year in 2021 was a 169 percent increase in funding over the previous year. It’s not surprising then that funding in 2022 did not keep up, and certainly the global economic climate hasn’t helped. Data from ABN AMRO Ventures and Dealroom.co showed this year’s third-quarter funding down 64 percent from the Q4 2021 record.
Reduced funding after a record-breaking year doesn’t necessarily spell doom, and the fintech ecosystem is not unique in seeing a drop in VC investments. Inc. Magazine reports 20 and 23 percent less funding for the first and second quarters of 2022 across sectors. Still, fintech remains in the top two most invested industries, surpassed by health only in Q3. Fintechs remain a force to be reckoned with in the financial sector even as funding has slowed this year.
For new startups trying to get a toehold in the market, VC firms provide a bevy of benefits. While capital investments are key, they also offer advice, mentorship, and even talent recruitment to nascent enterprises.
The world of finance is highly regulated, and VCs bridge the gap between fintechs and traditional finance, helping young startups understand the complex web of legal regulations and compliance requirements. Startup founders may also find their experienced VC investors are good sounding boards for ideas, mentorship, and strategic brainstorming.
For young startups, recruiting talent can be challenging; without name recognition or credibility, working at a new startup may seem risky. Because VC firms invest in many companies and already have credibility in the market, they can help draw in talent and even act as referrals for individuals with whom they’ve worked before.
The most crucial support that VCs provide is financial runway . Many of the potentially disruptive ideas fintechs aim to bring to fruition are capital intensive, and it could take several years before a startup turns a profit. VC investments supply the oxygen these startups need to survive as they grow.
How fintechs are changing the future of finance
Fintechs already altered the financial landscape, and those changes will continue to snowball. So far, fintechs caused five major shifts to finance, and while each impacted the trajectory of financial world, more changes will likely come.
- Ease of payment. New payment systems allow users to make real-time payments through their phones from their bank accounts to businesses without the use of a credit card and at a fraction of the cost. With apps like Stripe, e-commerce companies can integrate payments into their website and immediately begin accepting payments from dozens of countries. Buy-now-pay-later (BNPL) services like Klarna and Afterpay allow companies to bypass traditional credit cards and give customers credit directly. Customers make payments in installments over a set time period and avoid purchase limits and credit card applications, often without interest or fees unless a payment is late.
- Democratize investing. Apps like Robinhood have disrupted traditional investment brokerages and their fees, giving users free access to the stock market on their phones and making it easy to open and fund investment accounts and buy and sell stocks. As technology advances, AI advisors will provide better investment and portfolio management service at a much lower cost.
- Real-time lending. Fintechs have removed banks as the intermediaries of lending, even enabling peer-to-peer lending through apps like Kiva and Upstart. SoFi and Credit Karma expedited the lending process and enabled almost instant credit approval and access to cash. By increasing the number of potential lenders and borrowers, digital lending can also make loans more accessible to more people, with lower interest rates and credit scores.
- Bank in your pocket. Today, consumers rarely need to visit a physical bank branch since most of what they need is accessible on their phones. The previously unbanked—people in areas where banks are hard to access or who have no credit scores or history—are most impacted. The omnipresence of smartphones paired with the rise of fintechs is bringing these individuals into the banking system and unlocking access to a host of financial services.
- Blockchain and cryptocurrencies. With blockchain, cryptocurrencies have solved the problem of double-spend, and while they are not particularly widespread, the potential for a globally accepted currency has significant potential to change the financial world. Separate from cryptocurrencies, blockchain can support smart contracts, which outline specific fulfilment conditions and automatically transfer money based on those conditions, with blockchain providing security measures.
The future of global finance
Fintechs are not finished influencing the future of global finance. Investment in fintech remains strong and continues to drive innovation and change in the industry, especially among populations historically underserved or disconnected from the financial system. This includes traditionally unbanked people in industrializing nations gaining access to the global financial system, small or medium businesses more easily accessing credit from non-traditional sources, and individuals managing their own investments from their phones without fees or commissions, perhaps with the help of an AI advisor. There remains significant potential for innovation in this space, which will continue to sustain the symbiotic relationship between VC firms and creative fintech startups.
About the Author:
Nayan Ramani is a product manager at Google with expertise in capital markets, prime brokerages, financial risk management, and payments infrastructure. He has over 14 years of experience with fintech systems.
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