Why PayPal and its rivals are building investment platforms

Payment companies seem to be increasingly straying from their core competencies in an effort to boost their transaction volume and account balances.

PayPal, for example, recently added a top executive with experience in the brokerage industry. Its goal is likely to build investment products such as a stock-trading platform. The service would join PayPal's other non-payment functions such as cryptocurrency trading.

While that may seem tangential, the addition of stock-trading capabilities gives PayPal users a way to invest any funds they have sitting in their accounts — and to draw more funds into PayPal for future investments.

The new PayPal executive, Rich Hagen, previously founded TradeKing, an online brokerage, in 2005 and became president of Ally Invest in 2015 when Ally acquired TradeKing. As the new CEO of a division called Invest at PayPal, Hagen is reportedly part of an effort that includes discussions with broker dealers or taking over a trading platform. PayPal is "evolving its app" to enable an investment feature, the company's public relations office said, without providing further details.

By adding support for stock trading, PayPal would begin competing with specialized online investing apps like Acorn and Robinhood that don't necessarily have peer-to-peer transfers or merchant payment capabilities. Robinhood offers some ancillary products, and is planning a service that allows users to receive their paychecks two days earlier via direct deposit.

"It's a new business category. Fractional investment platforms don't have a pathway to redeem idle balances at the point of sale," said Richard Crone, a payments consultant.

PayPal is also in the process of building a super app, which would tie in payments with other services such as buy now/pay later and merchant credit. Even if some of those services seem situational, they strengthen the overall appeal of the app, experts say.

"Payments has become more of an end-to-end proposition," said Marco Salazar, director of payments at Javelin Strategy & Research. "This is a way for PayPal to acquire customers and make it stickier."

Square also offers stock investing and crypto through its Cash App, with crypto trading making up more than 70% of Square's revenue. The fintech has tapped into this revenue stream to fuel the development of both consumer-facing and merchant services.

More recently, Bakkt partnered with Wyndham to enable conversion of incentive marketing to cryptocurrency. And this week, the payments and financial services application programming interface provider Railsbank partnered with personal financial management fintech Status Money to power cryptocurrency investing. The Railsbank collaboration with Status Money offers a card that earns cash back rewards that are automatically invested in cryptocurrency by default.

"The investment allows the consumers to achieve financial goals. In this case it's an investment in crypto and the card is a vehicle to do that," said Dov Marmor, chief operating officer of Railsbank North America. "There's an entire demo of people that don't want travel rewards. You can reach them by tying the payment to an investment."

Schwab offers a similar product with its investor card with American Express, which transfers cash back to a Schwab investment account. And banks such as Quantic have partnered with fintechs to issue cards that are tied to cryptocurrency investment.

Even as a standalone service, the growth of both cryptocurrency and retail investing creates an opportunity for payment companies to increase the average balances of their customer accounts.

The value of bitcoin, for example, jumped from about $10,000 to nearly $60,000 between the fall of 2019 and summer of 2021 — high growth even given the cryptocurrency's price swings, according to Statista. And retail brokers opened up to three times as many new accounts in 2020 than in 2019, with the 10 million in new accounts opened in 2020 likely surpassed in the first half of 2021, said Devin Ryan, an analyst at JMP Securities.

The share of off-exchange trading, which includes small companies and investment through apps, jumped to 47% of U.S. equity trading volume in January 2021, up from 41% in January 2020 and 37% in January 2019, according to Deloitte, which added: "Ignoring these customers is shortsighted for several reasons, not the least of which is that they could be an attractive customer segment down the road."

There are risks associated with retail investing that could cause problems for payment companies. Robinhood, for example, faced criticism from users after it halted GameStop stock trades following a spike in trading that was linked to a Reddit forum.

There's also potential regulatory pressure. The Securities and Exchange Commission is investigating retail investment platforms ahead of potential restrictions on the use of differential marketing, behavioral prompts and gamification that encourage people to trade more often or in higher amounts. The investigation follows a complaint by Massachusetts regulators against Robinhood, contending it used gamification to entice usage. Robinhood later removed digital confetti from its screens.

While PayPal would likely not be acting as an actual investment firm, it could still face similar blowback if there was a dramatic market swing or other event-driven trading curbs, according to Salazar.

"If there are limitations like what happened with GameStop, consumers may not know any better," Salazar said.

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