FinTech: 3 years of pure-play, high-quality investing

In the three years since we launched our Global FinTech strategy, we have maintained a focus on quality growth at a reasonable price, helping us to outperform our peer group. We see five key trends driving growth for companies involved the digitalisation of finance. How has the investment landscape changed, and what key challenges lie ahead?

 

Need to know Growth in fintech is being driven by five key trends: the move to a cashless society, financial inclusion, lower barriers to entry, the rise of technology ecosystems and the need for cybersecurity Recent developments – including challenges facing traditional banks and a reclassification of payment companies as financial stocks – have helped strengthen the investment case for fintech, in our view Valuations are also extremely attractive following an excessive depression of multiples in recent years

 

Fintech, or financial technology, has transformed the financial services industry. Think of how much payments and mobile banking have changed in the past 10 years, and then imagine more changes of a similar magnitude occurring over the next decade. The fintech industry was already valued at about USD 194 billion in 2022, with estimates calling for a compound annual growth rate (CAGR) of 16.8% from 2023-2028.¹

Our holdings are diversified across three categories: established companies that stand out from peers (established fintech); companies that help the financial industry develop and implement technology (enabling technology); and younger companies with potential to become established  (upcoming fintech).

In general, there are five core areas that we believe will drive investment opportunities in the industry over the next two decades:  

1. The world will become a fully cashless society. An increasingly sophisticated digital payments infrastructure is enabling this transformation. Singapore and the Netherlands currently lead with digital payments, while Italy, Greece and most emerging markets remain largely cash-based societies.
2. Digital finance will lead to financial inclusion for all. A significant number of people across the world lack exposure to financial services. For example, almost a quarter of US households – or 34 million – are either unbanked or underbanked.² 
3. Digitalisation is lowering barriers to entry in the industry by unbundling services traditionally provided by banks (payments, lending, insurance and wealth management). This boosts efficiency and fosters the emergence of new banking and fintech services.
4. The rise of technology ecosystems is increasing the need for fintech. This refers to  companies (e.g., PayPal, Uber)³ that build up large customer bases and then lock them with additional services. With the Banking as a Service (BaaS) model, traditional banks can integrate digital services directly into the products of non-bank businesses. These tech-ecosystem companies need fintech expertise, creating a large B2B opportunity.
5. Cyber security is a necessity for providers of digital financial services, which are particularly vulnerable to hackers. Regulations aimed at preventing cyber-attacks are strengthening, with higher fines for businesses that lack protection. Cybercrime insurance is a growing area.

Our understanding of the technological, sociodemographic and regulatory drivers of change helps us narrow down our investment universe. We have constructed a balanced high-conviction portfolio of 40-60 companies. Our mantra of quality growth at a reasonable price has proven its value versus other fintech strategies, which implement different investment styles.

Since launch on 6 April 2020, the net annualised performance for the NA share class of the strategy is +7.6%, compared with +14.7% for the reference index, which is the MSCI All Countries World. That said, when compared with a group of peers following a similar FinTech investment strategy, the fund places first out of eight peers we monitor (see Figure 1). It also has the highest Sharpe ratio.

FIG 1: LO Funds – Global FinTech performance since inception. Past performance is not a guarantee of future results.

Source:  LOIM, Bloomberg, 6 April 2023. The peer group methodology cited herein is provided for information purposes only and may be subject to change over time. No fund/benchmark/index is directly comparable to the investment objectives, strategy or universe of our fund. Returns shown net of fees. The performance of a peer group shall not be indicative of past or future performance of any fund. For illustrative purposes only. This document has been prepared by LOIM employees who are encouraged to raise assets for their strategy and may have a conflict of interest.

 

More `fin’ than `tech’

One of the most significant developments since our launch occurred just recently. We always said that fintech would become the next generation of financial services, and MSCI made this official on 20 March with a reshuffling of the GICS (Global Industry Classification Standard). Digital payment companies were moved out of the Technology group and into Financial Services. They are part of a new sub-industry called Transaction & Payment Processing Services, which includes digital/mobile payment processors, payment service providers and gateways and digital wallet providers.

We plan to discuss the implications of this change in detail in a subsequent paper, but suffice it to say that fintech companies are likely to benefit having a new peer group of traditional banks, insurance companies and asset managers (rather than competing with Big Tech for attention). They compare favourably here, with better profitability than their traditional peers, and stronger growth dynamics.

However, the appeal of payment stocks stretches beyond fundamentals. Concern about rising interest rates in the past couple of years has depressed multiples to the point where valuations are now extremely attractive.

Figure 2 shows some of the latest earnings multiples for a selected group of payment companies. They are comparable to 2008/09 levels. While we do not believe that a 2008/09-type recession is likely, that scenario is priced in, limiting any downside. Management teams have recently reiterated their growth targets and long-term outlooks. We expect M&A to play a more important role in the payments space going forward, as companies seek to expand margins through economies of scale. 

 

FIG  2. Earnings multiples for a selected group of payment companies within fintech

Source: LOIM, 14 March 2023. Any reference to a specific company or security does not constitute a recommendation to buy, sell, hold or directly invest in the company or securities. It should not be assumed that the recommendations made in the future will be profitable or will equal the performance of the securities discussed in this document.

 

Beyond payments

Though fintech is now more of a financial strategy than a technology one, we continue to have exposure to companies that deliver software solutions to the financial industry. Clients are demanding better, faster and cheaper service, and regulators are making increased demands. All of this requires having the right technology.

We focus only on the high-quality names, however, and not on the unprofitable, hyper-growth segment within fintech in general. In a market where credit is becoming less accessible and more expensive, we prefer companies with good free cashflow generation and stable management teams that have a track record in navigating through storms.

This focus, in combination with a strict portfolio construction discipline – limiting our single stock exposures; diversifying over sectors/ themes and geographies; incorporating ESG/ liquidity/ valuation and cyber risks in the size of positions – has resulted in the lowest volatility in the peer group. This is illustrated in figure 3.

We put a lot of effort into managing risks. In particular, we have created a multi-step process to screen companies for cybersecurity risks and engage with them on mitigation measures. We intend to add more cybersecurity screens and sources, and we are expanding into studying both software-vendor and cloud-provider concentration risks.

 

 

FIG 3. Rolling annualised monthly volatility. Past performance is not a guarantee of future results.

Source: LOIM, Bloomberg, 6 April 2023. The peer group methodology cited herein is provided for information purposes only and may be subject to change over time. No fund/benchmark/index is directly comparable to the investment objectives, strategy or universe of our fund. Returns shown net of fees. The performance of a peer group shall not be indicative of past or future performance of any fund. For illustrative purposes only. This document has been prepared by LOIM employees who are encouraged to raise assets for their strategy and may have a conflict of interest.

For more on our cybersecurity risk methodology, read our white paper here.

 

Constant change

Since launching our Global FinTech strategy three years ago, we have outperformed our peer group and experienced comparatively less volatility with a pure-play portfolio best characterised as quality growth at a reasonable price.

Successful trends investing involves the ability to monetise behavioral inefficiencies in the market, where the impact and pace of change is underestimated in the long run. With fintech, new technologies are both transforming legacy financial services providers and enabling new types of services.

The market is constantly changing, requiring a special expertise. At LOIM, we have demonstrated an ability to separate short-term hype from the companies making real earnings driven by long-term trends.

FOR PROFESSIONAL INVESTOR USE ONLY
This marketing document is issued by Lombard Odier Funds (Europe) S.A. a Luxembourg based public limited company (SA), having its registered office at 291, route d’Arlon, 1150 Luxembourg, authorised and regulated by the CSSF as a Management Company within the meaning of EU Directive 2009/65/EC, as amended; and within the meaning of the EU Directive 2011/61/EU on Alternative Investment Fund Managers (AIFMD). The purpose of the Management Company is the creation, promotion, administration, management and the marketing of Luxembourg and foreign UCITS, alternative investment funds ("AIFs") and other regulated funds, collective investment vehicles or other investment vehicles, as well as the offering of portfolio management and investment advisory services. This document is approved at the date of the publishing. 
Lombard Odier Investment Managers (“LOIM”) is a trade name.
The Fund is authorised and regulated by the Luxembourg Supervisory Authority of the Financial Sector (CSSF) as a UCITS within the meaning of EU Directive 2009/65/EC, as amended. The management company of the Fund is Lombard Odier Funds (Europe) S.A. (hereinafter the “Management Company”), a Luxembourg based public limited company (Société Anonyme SA), having its registered office at 291, route d’Arlon, L-1150 Luxembourg, authorized and regulated by the CSSF as a Management Company within the meaning of EU Directive 2009/65/EC, as amended. The Fund is only registered for public offering in certain jurisdictions. The management company of the fund may decide to terminate the arrangements made for the marketing of the Fund. The articles of association, the prospectus, the Key Investor Information Document, and the subscription form are the only official offering documents of the Fund’s shares (the “Offering Documents”). They are available on http//www.loim.com or can be requested free of charge at the registered office of the Fund or of the Management Company, from the distributors of the Fund or from the local representatives as mentioned below.
Austria. Supervisory Authority: Finanzmarktaufsicht (FMA), Representative: Erste Bank der österreichischen Sparkassen AG, Am Belvedere 1, 1100 Vienna - Belgium. Financial services Provider: CACEIS Belgium S.A., Avenue du Port 86C, b320, 1000 Brussels - France. Supervisory Authority: Autorité des marchés financiers (AMF), Representative: CACEIS Bank, place Valhubert 1-3, F-75013 Paris - Germany. Supervisory Authority: Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin), Representative: DekaBank Deutsche Girozentrale, Mainzer Landstraße 16, D-60325 Frankfurt am Main - Ireland. Supervisory Authority: Central Bank of Ireland (CBI), Facilities Agent: CACEIS Ireland, One Custom House Plaza, International Financial Services Centre, Dublin 1, Ireland – Italy. Supervisory Authority: Banca d’Italia (BOI) / ConSob, Paying Agents: Société Générale Securities Services S.p.A., Via Benigno Crespi, 19/A - MAC 2, 20159 Milano, State Street Bank International GmbH - Succursale Italia, Via Ferrante Aporti, 10, 20125 Milano, Banca Sella Holding S.p.A., Piazza Gaudenzio Sella, 1, 13900 Biella, Allfunds Bank, S.A.U., Milan Branch,Via Bocchetto 6, 20123 Milano, CACEIS Bank S.A., Italy Branch, Piazza Cavour 2, 20121 – Milano - Liechtenstein. Supervisory Authority: Finanzmarktaufsicht Liechtenstein (“FMA”), Representative, LGT Bank AG Herrengasse 12, 9490 Vaduz - Netherlands. Supervisory Authority: Autoriteit Financiële Markten (AFM). Representative: Lombard Odier Funds (Europe) S.A. – Dutch Branch, Parklaan 26, 3016BC Rotterdam - Spain. Supervisory Authority: Comisión Nacional del Mercado de Valores (CNMV), Representative: Allfunds Bank, S.A.U. C/ de los Padres Dominicos, 7, 28050, Madrid – Sweden. Supervisory Authoriy: Finans Inspektionen (FI). Representative: SKANDINAVISKA ENSKILDA BANKEN AB (publ), Kungsträdgårdsgatan, SE-106 40 Stockholm – Switzerland. Supervisory Authority: FINMA (Autorité fédérale de surveillance des marchés financiers), Representative: Lombard Odier Asset Management (Switzerland) SA, 6 av. des Morgines, 1213 Petit-Lancy; Paying agent: Bank Lombard Odier & Co Ltd, 11 rue de la Corraterie, CH-1204 Geneva. UK. Supervisory Authority: Financial Conduct Authority (FCA), Representative: Lombard Odier Asset Management (Europe) Limited, Queensberry House, 3 Old Burlington Street, London W1S3AB, 

NOTICE TO RESIDENTS OF THE UNITED KINGDOM The Fund is a Recognised Scheme in the United Kingdom under the Financial Services & Markets Act 2000. Potential investors in the United Kingdom are advised that none of the protections afforded by the United Kingdom regulatory system will apply to an investment in Lombard Odier Funds and that compensation will not generally be available under the Financial Services Compensation Scheme. This document does not itself constitute an offer to provide discretionary or non-discretionary investment management or advisory services, otherwise than pursuant to an agreement in compliance with applicable laws, rules and regulations. 
UK regulation for the protection of retail clients in the UK and the compensation available under the UK Financial Services Compensation scheme does not apply in respect of any investment or services provided by an overseas person.
A summary of investor rights and information on the integration of sustainability risks are available on https://am.lombardodier.com/home/asset-management-regulatory-disc.html.
Singapore: This marketing communication has been approved for use by Lombard Odier (Singapore) Ltd for the general information of accredited investors and other persons in accordance with the conditions specified in Sections 275 and 305 of the Securities and Futures Act (Chapter 289). Recipients in Singapore should contact Lombard Odier (Singapore) Ltd, an exempt financial adviser under the Financial Advisers Act (Chapter 110) and a merchant bank regulated and supervised by the Monetary Authority of Singapore, in respect of any matters arising from, or in connection with this marketing communication. The recipients of this marketing communication represent and warrant that they are accredited investors and other persons as defined in the Securities and Futures Act (Chapter 289). This advertisement has not been reviewed by the Monetary Authority of Singapore.
Hong Kong: This marketing communication has been approved for use by Lombard Odier (Hong Kong) Limited, a licensed entity regulated and supervised by the Securities and Futures Commission in Hong Kong for the general information of professional investors and other persons in accordance with the Securities and Futures Ordinance (Chapter 571) of the laws of Hong Kong.
An investment in the Fund is not suitable for all investors. There can be no assurance that the Fund's investment objective will be achieved or that there will be a return on capital. Past or estimated performance is not necessarily indicative of future results and no assurance can be made that profits will be achieved or that substantial losses will not be incurred. Where the fund is denominated in a currency other than an investor's base currency, changes in the rate of exchange may have an adverse effect on price and income. All performance figures reflect the reinvestment of interest and dividends and do not take account the commissions and costs incurred on the issue and redemption of shares/units; performance figures are estimated and unaudited. Net performance shows the performance net of fees and expenses for the relevant fund/share class over the reference period. This document does not contain personalized recommendations or advice and is not intended to substitute any professional advice on investment in financial products. Before making an investment in the Fund, an investor should read the entire Offering Documents, and in particular the risk factors pertaining to an investment in the Fund, consider carefully the suitability of such investment to his/her particular circumstances and, where necessary, obtain independent professional advice in respect of risks, as well as any legal, regulatory, credit, tax, and accounting consequences. This document is the property of LOIM and is addressed to its recipient exclusively for their personal use. It may not be reproduced (in whole or in part), transmitted, modified, or used for any other purpose without the prior written permission of LOIM. It is not intended for distribution, publication, or use in any jurisdiction where such distribution, publication, or use would be unlawful. This document contains the opinions of LOIM, as at the date of issue. The information and analysis contained herein are based on sources believed to be reliable. However, LOIM does not guarantee the timeliness, accuracy, or completeness of the information contained in this document, nor does it accept any liability for any loss or damage resulting from its use. All information and opinions as well as the prices indicated may change without notice. Neither this document nor any copy thereof may be sent, taken into, or distributed in the United States of America, any of its territories or possessions or areas subject to its jurisdiction, or to or for the benefit of a United States Person. For this purpose, the term "United States Person" shall mean any citizen, national or resident of the United States of America, partnership organized or existing in any state, territory or possession of the United States of America, a corporation organized under the laws of the United States or of any state, territory or possession thereof, or any estate or trust that is subject to United States Federal income tax regardless of the source of its income.
Source of the figures: Unless otherwise stated, figures are prepared by LOIM.
Although certain information has been obtained from public sources believed to be reliable, without independent verification, we cannot guarantee its accuracy or the completeness of all information available from public sources.
Views and opinions expressed are for informational purposes only and do not constitute a recommendation by LOIM to buy, sell or hold any security. Views and opinions are current as of the date of this presentation and may be subject to change. They should not be construed as investment advice.
No part of this material may be (i) copied, photocopied or duplicated in any form, by any means, or (ii) distributed to any person that is not an employee, officer, director, or authorised agent of the recipient, without Lombard Odier Funds (Europe) S.A. prior consent. In Luxembourg, this material is a marketing material and has been approved by Lombard Odier Funds (Europe) S.A. which is authorized and regulated by the CSSF.
©2023 Lombard Odier IM. All rights reserved