A record amount of pre-seed or seed deal value was closed in 2022, along with the second-highest annual level of early-stage VC deal value, broadening the pipeline of new market entrants, and the winning investments continue operating despite the slowdown in new financings since then.
Macroeconomic shifts are driving sweeping changes in financial behavior, bringing renewed interest to consumer-facing products including alternative lending and earned wage access. Early signs of recovery for the cryptocurrency ecosystem and continued maturation of payments companies are also retaining investor interest.
Read on for further analysis of key verticals within fintech.
Fintech Innovation Spans Several Key Verticals
Lending
The rise of interest rates since 2022 from zero into recent highs has driven significant changes in the financial services sector. As the cost of debt funding rose, accessibility fell, boosting demand for private credit and alternative lending products.
Consumer financing platforms drew in several of the largest VC deals of the past two years, including Ant Group’s consumer finance arm and open banking start-up Abound. Consumers have faced mounting costs due to high inflation, contributing to increased consumer debt.
Payouts for savings and other interest-bearing accounts have also risen, compressing net interest margins for banks. These effects are expected to subside over the next year as interest rates come down, potentially slowing the boon for alternative lenders.
Banks still face some lingering effects of the US banking crisis in 2023, though, and increased regulatory scrutiny is expected. Higher capital requirements and credit loss reserves are top of mind for regulators. Oversight of alternative lenders and banking-as-a-service providers is also expected to grow, with regulatory bodies in multiple regions calling for investigation into non-bank financial intermediation activities.
While regulators and operators look to strike a balance between traditional and private lenders, dealmaking in the space continues. Private investment into lending-focused fintechs has shown notable resilience since the late 2010s, drawing in more than $10 billion globally each year since 2017. Total deal value also grew 30% in 2023, when many other segments and industries experienced marked declines.
Insurtech
Insurtech was the only other fintech subsegment that managed to notch a higher amount of private investment in 2023 compared with the year prior, rising by 45.4% and compensating for some of the decline seen in 2022.
This higher dollar value coincided with a 28.7% decline in deal count, however, with the fewest individual deals closed since 2016. Much like lending fintechs, insurtechs operate in an industry dominated by a few massive traditional incumbents.
Competition between these incumbents, as well as legacy infrastructure upholding critical products and services, have created opportunities for companies that can provide technological efficiencies. Private investment into insurtechs has grown over the past decade, albeit inconsistently as the ecosystem emerged.
From an incumbent’s standpoint, licensing agreements and vendor relationships may take precedence over an M&A transaction, and lingering high rates appear to have further slowed the latter over the past two years, contributing to a decline in overall deal volume. The need for technological agility and a competitive edge will only continue to rise, however, reserving some opportunities for insurtechs in the years to come.
Prudential’s closure of a $2.3 billion acquisition could be a possible indicator of a shift away from insurtech by legacy players, though it may be too early to see.
Cryptocurrency and Blockchain
Signs of spring are emerging after a drawn-out cryptocurrency winter and high-profile court proceedings against cryptocurrency platforms including FTX and Coinbase. Regulatory structures surrounding these exchanges are attempting to evolve at a rapid clip, and more precedent-setting litigation and legislation are all but guaranteed in the coming years.
Despite these uncertainties, dealmakers continued to invest in cryptocurrency and blockchain technologies throughout 2022, closing $24.2 billion across a larger number of deals compared with 2021. Broader pessimism surrounding cryptocurrency’s place in the financial services realm had a delayed effect on private investment activity, with deal value dropping by more than two thirds to $8 billion in 2023. Still, more than 1,000 deals closed last year for a higher annual value than each year of the later 2010s.
Sentiment around cryptocurrency is improving, and the struggles of the past three years appear to be severe growing pains. Cryptocurrency exchange-traded funds have entered the public markets and web3 protocols are expanding, offering additional channels for utilization and scalability.
Private investment in cryptocurrency and blockchain offerings will reflect the performance of these expansions over the next several quarters. A resurgence to 2021 and 2022 highs is unlikely, but more measured investment and new entrants can be expected, particularly on the VC front.
B2B Payments
Deal flow in the B2B payments segment grew steadily for much of the 2010s with a few megadeals in the mix. Like many other segments, deal value skyrocketed in 2021 and stayed elevated in 2022 until normalizing again in 2023 with a decline of more than one-half.
Digitization of enterprise infrastructure accelerated during the pandemic, and private investment in the space grew by more than 50% in 2020 and then more than doubled in 2021.
The launch of the US FedNow pilot program in mid-2023 underscores the demand for instant payment schemes among depository institutions and their customers. A faster underlying foundation for interbank exchanges will take time to implement and troubleshoot but will eventually benefit both institutions and individuals in terms of settlement speed and cost.
Automation and AI are also driving changes in the payments space, with use cases including more efficient customer service and fraud detection. These factors, along with the surge in activity that played out during the pandemic, will shape the segment’s development over the next several quarters as invested capital is put to work. That said, new investment into the space slowed in 2023 and may remain muted until macroeconomic tides begin to shift.
Consolidation on the Horizon
The ebb and flow of industry consolidation continues. On one hand, financial services behemoths are grappling with decentralized products and currencies, greater geopolitical fragmentation, and renewed vigor in criticisms of long-standing oligopolistic fee structures like Visa and Mastercard, which recently took a legal blow that will result in lower fee income over five years, pending court approval. Conversely, banks and traditional institutions remain relatively fortified with massive balance sheets and highly developed infrastructure and payment networks.
Privately invested capital has become more concentrated among major investors as well, and contraction in multiples since 2021 has created stress among many start-ups that now may be more likely to pursue a sale to an incumbent or competitor at a discount. In this environment, fintechs aiming for fundamental industry disruption face greater hurdles than those inclined to integrate with an existing major player, given continued VC headwinds.
Exit opportunities for the latter group remain more fruitful, though targets appear to balk at purchase prices, resulting in double-digit percentage declines in exit count for that category for the past two years.
As the dust settles after two years of slower dealmaking and interest rates begin to drop, the fintech space will likely start to see a wave of consolidation through strategic M&A transactions. Acquisitions remain the most common exit type for fintechs as new public listings struggle to break through early trading difficulties.
Slower new deal flow and smaller financing sizes in the late-stage VC category may slow the pipeline of public listings further, but resiliency in the earlier stages combined with cautious optimism regarding IPO prospects could see more companies pursuing this exit route. PE firms also maintain an interest in fintech, with consistent levels of both buyout and growth or expansion deals since 2021, when firms materially increased their footprint in the space.
Fintech’s Frontier
Three major themes will shape fintech’s direction over the coming quarters:
- Proliferation of transformational next-generation technologies, namely AI and auxiliary capabilities
- Socioeconomic-driven changes in consumer financial behavior
- Regulatory directives
Agility is key for financial services firms to adjust to these changes, which create opportunities for fintech players to provide support and integrate themselves into the broader financial system. With financial fraud on the rise and cybersecurity needs expanding largely due to AI, institutions require faster, more efficient controls.
Consumer demands, including faster payment processing and personalization, raise the stakes for these controls as well. The biggest catalyst for upcoming change in the financial sector is arguably the direction of interest rate policies, with several global powerhouses on the precipice of rate cuts in 2024 following drawn-out battles against inflation.
The effects of inflation linger with rising use of buy-now-pay-later products and consumer debt among concerns for certain lenders and regulators. Legal proceedings against cryptocurrency platforms will impact dealmakers as well. There are several key risks facing fintechs, but outsourcing innovation remains a valuable lever for large incumbents to pull, especially in times of uncertainty.
The wait-and-see approach that many investors took over the past two years is beginning to wane, with slower fundraising and tighter liquidity contributing to mounting pressures. 2024 will likely mark key developments in the financial services industry, and private dealmaking in fintech will respond in kind.
Methodology
Fintech, cryptocurrency, insurtech, and B2B payments within this publication were defined using the PitchBook verticals for each. Lending was defined using a mix of relevant keywords that had to be contained within the company’s profile.
Companies in the underlying population had to have at least one of those industry codes tagged as their primary industry code. Standard PitchBook methodology regarding venture transactions and venture-backed exits was used for all datasets, and similarly for PE or other private investment types. Full details can be found here.
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