A more connected digital ecosystem will become one of Covid-19’s lasting impacts.
From remote working to cashless payments, digital footprints have proliferated as more of what is done goes online. Subsequently, the data produced emerges as the new highly sought-after commodity for technology companies, investors, and financial regulators. With consumer behaviors and preferences feeding today’s algorithms, tomorrow’s innovations will be data driven.
Before the pandemic, use in fintech, an umbrella term for any business that engages technology for financial services, was nascent. But as fintech’s advantages gather, so does the cost of remaining dormant. A report by EY finds that 85% of global banks are prioritizing a digital transformation for their businesses to remain competitive.
Deals are mirroring this urgency. Even amid a subdued investment and contracting economic backdrop, the total global fintech deals rose almost 4% to more than $23 billion in the first half of this year, according to Accenture analysis.
The trend places large fintech companies like Ant Group and Lufax Holdings at the digital transformation forefront. As both prepare to float shares later this year, these deals will not only illustrate how fintech evolves by the products and services they offer, but also signals how the regulatory environment is expected to respond.
LUFAX, A STUDY
Lufax Holdings, the Chinese online wealth management portal backed by Ping An Insurance Group, is expected to raise up to $3 billion when the company goes public in the US.
The company’s New York listing follows an earlier delay when the group eyed a Hong Kong float in 2018. The postponement stemmed from uncertainty over China’s regulatory outlook. At the time, Beijing was clamping down on peer-to-peer (P2P) lending activity, which matches borrowers with lenders without an intermediary such as a bank.
Led by higher interest rates, money flowed into risky investments, causing a pickup in defaults and social unrest that eventually led regulators to intervene. As memories from the 2015 margin financed stock bubble remained fresh for investors and policy makers, minimizing systemic risks appears sound.
When Lufax postponed its IPO, it also scaled back its P2P business, with analysts concerned that the company and the industry had reached an impasse. While the company shifted its business towards to wealth management, insurance, and mutual fund sales to drive growth, the group continues to grow.
Lufax reported a 12% rise in balance of loans under management and an 8% gain in client assets for its online wealth management in the first half of this year, but the incident demonstrates how quickly Beijing’s favoUr can change.
Enforcing such oversight is particularly tricky, since tougher regulation in P2P lending offsets Beijing’s other ambitions to navigate credit to smaller and informal borrowers. Historically, major Chinese banks have instead preferred to service larger clients deemed less risky, like state-owned enterprises.
“With the rise of non-face-to-face transactions, financial institutions will have to ensure that they develop and regularly review their policies and procedures to address the specific money laundering and impersonation risks associated with conducting KYC (know-your-customer) on a non-face-to-face basis,” explains Grace Chong, Of-Counsel from Simmons & Simmons JWS, replying to FinanceAsia.
LARGER ANTS
The challenges for China’s digital transformation are magnified when Ant Group’s goes public. With the deal likely to raise more than $20 billion across Hong Kong and Shanghai, the IPO will be the world’s largest since Saudi Aramco listed last year.
Ant Group’s Alipay has already encountered several regulatory restrictions, including caps on payment transactions as well as meeting capital adequacy reserves normally required by banks. Alipay must also use a centralized clearing platform.
But other hurdles sit on the periphery. Among them includes People’s Bank of China’s (PBOC) digital currency electronic payments (DC/EP) initiative which aims to develop a digitalized yuan for payment use. The PBOC is selectively rolling out and testing digital money in select urban cities, aiming to implement nationwide use by 2022 when Beijing hosts the Winter Olympics.
The digital currency is intended for daily banking activities including payments, deposits and digital wallet withdrawals. It may also mark the PBOC’s ambitions to remove banknotes and coins from circulation.
While Alipay and rival Wechat pay handles more than 90% of digital payments, the DC/EP initiative was highlighted in Ant Group’s prospectus as a key risk. Citing insufficient visibility on consumer payment behavior as well as the payment industry, the prospectus was unsure how the digital sovereign currency would fit into the digital payment industry landscape.
“Apart from making use of a new cost saving and secure technology, it also represents a way for the central government to take back control over nominally private companies who have in effect controlled payment systems in recent years via the explosion of e-commerce in the mainland economy,” notes Christopher Wood, equity strategist at Jefferies.
ECONOMIC DEBT CONTEXT
The Guanghua School of Management estimates the lightly regulated internet-based consumer financing has grown nearly 400 times to nearly RMB 8 trillion since 2014. With household debt now accounting for 60% of GDP, up from almost a fifth of the economy in 2018, vulnerability to systemic risks are brewing.
While China’s Banking and Insurance Regulatory Commission notes that delinquency rates are under control, the data only captures bank loans and not those extended by the vast network or consumer finance firms, suggesting that any regulatory response could be later in the cycle and more aggressive.
Capital raising for Ant Group and Lufax Holdings will expand fintech’s touchpoints further. For market participants, the question is whether the regulators will find themselves behind the curve and playing catchup, or will rollout policies ahead of innovation, capping growth rates commonly associated with fintech services.
