Signals Q1’24: The EU illegalized crypto laundering

Hey fintech friends,

Welcome to the first quarterly roundup of 2024!

For new readers, Signals is the premium subscriber edition of TWIF designed to get you away from the headlines and to explore the larger trendlines. Each quarter, we break down four key questions on fintech activity:

Signals roundups are possible thanks to Hayden Hill, who collates insights from TWIF's newsletters into a comprehensive data dashboard each quarter.

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Fintechs raised a total of $5.37 billion in Q1, down 25% from the prior quarter and down 56% Year-over-Year. Though the number of rounds raised was up 10% QoQ, the average size of each raise shrank 32% QoQ.

Public markets are embracing this shift, setting the stage for a number of fintechs to go public this year. In Q1 Circle, cashback platform Ibotta, British trading services provider Marex Group, and India’s MobiKwik all filed for IPO (in a second go-around for Circle and MobiKwik, who’d previously scrapped plans to go public due to regulatory opposition and concerns around market volatility, respectively). Also, Klarna is reportedly in talks to publicly list at a $20 billion valuation.

In other news:

Let’s dive into fintech activity in Q1. 

Venture funding concentrated further into early-stage (Seed through Series B) rounds.  The slowdown in fintech investment follows a broader trend of venture investment levels normalizing after their 2021 peaks. The “Growth at any cost” strategy is out, as investors renew their focus on profitability– or as Jake Gibson calls it, the “F*uck around and find out” strategy. 

Areas that received the most funding were:

A few concepts received notable funding:

Private fintechs held off on going public in Q1, while acquisition activity jumped 70% QoQ. Much of this was driven by private equity firms ramping up investment in key areas, including:

B2C payments saw the highest consolidation among fintechs, with KindCard’s acquisition of high-risk payments platform OpenTransact, fundraising platform Bloomerang acquiring rival Qgiv, African payments platform Ukheshe acquiring EFT, and ChowNow buying YC-backed restaurant POS platform Cuboh.

The SEC approved ten spot Bitcoin ETFs to be offered by firms including Franklin Templeton, Bitwise, and Grayscale. The price of Bitcoin has since jumped ~30% to its current ~$66,300. 

Payment fraud solutions abounded, with launches largely falling into one of two categories:

(Truly) free tax filing!!! Just as Intuit was dinged by the FTC for advertising TurboTax as “free” (and in reality, charging most of its users for the service), Varo, Current, and Chime worked with Column Tax & april to launch free in-app tax filing. The IRS also jumped in with the release of its own free tax filing service.

Public released options trading to rival the capabilities of apps like Robinhood and Webull. Brokers can earn about 6 times more payment for order flow revenue on options than on vanilla stocks (Robinhood, for one, makes the majority of its PFOF on options trades). Meanwhile, retail investors piling into shorter-dated options (or 0DTEs) is drawing attention from regulators. 

Self-custodied crypto wallets are bringing DeFi closer to the mainstream: Coinbase rolled out its embedded “Wallet-as-a-Service”, Robinhood released its self-custodial wallet on Android, Anchorage launched Porto– a self-custody wallet for institutions, crypto platform OKX announced plans to bring its exchange and wallet to Argentina, Ledger anticipates the arrival of its hardware wallet in May, and Meso came out of stealth with a fiat-to-self-custodied-wallet offering. 

The EU, meanwhile, clamped down on crypto wallets as part of a broader anti-money laundering effort… which brings us to:

Fintech funding continued to stabilize through Q1, and lower valuations prompted consolidation across verticals. It’s a brave new world for startups, who’ve spent most of the past year adjusting to lower capital availability and interest rates projected to stay at ~5% this year.

One of the spiciest stories that emerged last quarter revolved around crypto wallets, and crypto’s potential to be used as a tool for money laundering. In March, European regulators approved the Anti Money Laundering Regulation– a comprehensive set of rules that, among other things:

Meanwhile, American crypto advocates are throwing up over two Senate bills that would bring similar requirements to the US by requiring crypto service to register as MSBs. Opponents argue that these laws would effectively kill off US crypto companies, which feels… a bit dramatic, TBH. Arguably these laws expand crypto adoption by enabling financial institutions to partner with crypto firms, with the reassurance that crypto partners are doing proper due diligence. 

Money laundering is a growing problem, with $800 billion in funds– or 2%-5% of global GDP– estimated to be laundered each year. In spite of global AML efforts, less than 1% of these funds are actually recovered.

As a reader of this newsletter, you're probably familiar with these AML measures: If a customer initiates a transfer to an external recipient, their payment provider has to do all the necessary due diligence checks and file all the corresponding regulatory reports so that it’s clear which funds went where. 

For fiat financial platforms, the problem with crypto (and in particular, self-custody wallets) is that there isn’t necessarily a way to trace where crypto are coming from or where they’re being sent to. So whereas a sender's payment provider would normally receive personally identifying details on the recipient and (in some cases) the purpose of the transaction, a crypto wallet might not disclose any information beyond a public key, making it really hard to know where the crypto-assets went. To make matters worse, money launderers can use a variety of crypto mixers and privacy coins to blur the details of these transfers even further.

This blurriness is why a lot of TradFis won’t directly touch crypto. 

It’s actually kind of unhinged that crypto companies aren’t already subject to AML rules, right? Like, for all the work that AML regulators and officers do to detect money laundering in the fiat banking system, a money launderer could just pop their funds in an anonymous crypto wallet and push them anywhere from there? Seems to defeat the purpose of having AML measures in the first place??

European regulators seem to agree, and FWIW, the EU crypto industry has "cautiously welcomed" the new rules. At the very least, the EU’s new AML rules give TradFis the confidence to work in tandem with new partners in offering crypto to customers.

Sure, bringing crypto platforms into the scope of MSB regulation would mean that users no longer benefit from the promise of 100% privacy, but at least they’d be able to access a more robust ecosystem of crypto products. Hopefully this inspires US regulators to follow suit.