Market Mad House

In individuals, insanity is rare; but in groups, parties, nations and epochs, it is the rule. Friedrich Nietzsche

Long Ideas

How Digital Wallets Will Destroy Banking as We Know It

Two recent news stories indicate that electronic payment solutions could be a much bigger threat to traditional banks than we thought.

JPMorgan Chase (NYSE: JPM) reported that one million of its account holders are now using Apple Pay at its Investor Day on Tuesday, February 24, 2015. That means one million customers of one of the nation’s largest banks are using an alternative to traditional banks. Bank consumer behavior is changing faster than we thought.

Meanwhile Warren Buffett’s favorite, Bank of America (NYSE: BAC), is laying off people and closing branches right and left. The Motley Fool’s Matthew Frankel reported that BOA closed more branches than any other bank in 2014. Bank of America is also laying off employees at many of branches, including Addison and Plano, Texas, where it plans to lay off 116 people, according to The Dallas Business Journal.

These developments are no coincidence; Americans are abandoning traditional banking right and left. They’re no longer willing to put up with overdraft fees, paper checks, or the need to go to a physical location to access their money. The same generation that gets instant news, information, and entertainment through the net and the cloud wants instant access to its money from the same source.

Bitcoin sign

PayPal’s Success Proves People Want to Avoid Banks

People that got burned in the Great Financial Crisis of 2007 and 2008 and its aftermath also want more control over their finances than traditional banks can give them. Solutions like Apple Pay and the soon to be independent PayPal can give them that control. The latest set of numbers from the oldest and best known digital wallet, eBay Inc.’s (NYSE: EBAY) PayPal, support this argument.

PayPal reported that its total payment volume grew by 24% between Fourth Quarter 2013 and Fourth Quarter 2014. PayPal’s total revenues grew by 18% in the same period. The sheer volume of transactions that PayPal is reporting is absolutely staggering. Consider these numbers for a minute:

  • PayPal reported a net total payment volume of $64.3 billion in Fourth Quarter 2014.


  • PayPal’s Merchant Services reported transactions worth $48.6 billion in the same period.


  • PayPal customers made 11.6 million transactions a day in Fourth Quarter 2014.


  • PayPal moved $485,000 through its system every minute in Fourth Quarter 2014.


With numbers like that, it is easy to see why Google Inc. (NASDAQ: GOOG) is beefing up its Google Wallet and Samsung is developing its own digital wallet that could be launched sometime this year. The tech companies obviously want part of the financial services pie, and Inc. (NASDAQ: AMZN) will not be far behind them.

This comes at a bad time for traditional banks like Bank of America, which was voted America’s most hated bank last year because they are struggling to retain customers. Average people now have a cheaper and more convenient alternative to traditional banking that gives them more control over their finances.

We could soon see a generation of people that never go to a bank and don’t know what a check is. Many younger people are already using solutions like Venmo to move money around. Meanwhile digital wallets make it easy to access the banking system without its traditional high entry costs. You do not need to undergo a credit check or have a good credit score to get a digital wallet.

A Digital Wallet That’s a Bank Account

Some providers of digital wallet service, including Green Dot Corporation (NYSE: GDOT), are specifically targeting unhappy bank customers. Green Dot CEO Steven W. Streit even told The Los Angeles Times that he is specifically targeting the unhappily banked.

He described his company’s target market as individuals that are “unhappily banked, meaning you have a checking account somewhere and you just don’t like it.”

Green Dot currently sells prepaid debit cards, which are a form of Digital Wallet, gift cards, and banking services through Walmart Stores (NYSE: WMT), Dollar General, Dollar Tree, Kroger, Rite Aid Pharmacies, Walgreens, CVS Pharmacies, and other retailers. One of its core constituencies is working class people that have had bad experiences with banks.

Green Dot also offers GoBank, a next generation digital wallet that is actually sold through Walmart Stores. What’s intriguing about GoBank is that it is both a digital wallet and a real FDIC insured bank account that gives users access to a network of 42,000 ATMs, where they can withdraw cash for free. Basically, GoBank has completely eliminated the need for brick and mortar banking; it’s an example of what Jim Cramer would call a stealth technology—a disruptive innovation that nobody will see coming until it starts stealing customers.

If something like GoBank could be combined with Apple or PayPal, it could spell doom for the traditional banking industry. My guess is that sooner or later a company like PayPal or the privately held Square will bring out its own version of GoBank. A standalone PayPal would be in an excellent position to launch its own bank or buy an existing bank, such as GoBank or Bank of Internet (NASDAQ: BOFI), to form the basis of such a service.

Digital Wallets Now Going After Lending

PayPal has already moved one area of banking by offering business loans through its PayPal Working Capital Program. Working capital is a highly flexible line of credit based on a company’s PayPal funds that a business can get in minutes with no credit check. It’s basically an alternative to bank lending for small businesses.

What PayPal is doing is extending hard money loans to business on the cash flow in its digital wallets. That’s another extremely disruptive innovation because it threatens one of the banks’ main sources of revenue.

smartphone and watches with mobile payments

Banks should be worried because Square is doing much the same thing with its own lending program—Square Capital. Bloomberg reported that the privately held payment processor claims to have provided $50 million in financing to more than 10,000 merchants. It is also setting up a program that it claims could offer hundreds of millions of dollars in financing to Main Street.

The next logical progression here is something like Square Capital or PayPal Capital for non-business customers—a line of credit based on direct deposits of a person’s salary or government benefit payments. If that appears, it will eliminate one of the major reasons people go to banks to get financing.

If these trends continue and digital wallets, bank accounts, and credit converge, brick and mortar banks could become as obsolete as livery stables. One has to wonder if the big banks will be able to survive this disruption or harness it for their own purposes.

The author owns shares of eBay and Bank of America.