We’re so excited — and had so many thoughts — that we wrote a whitepaper.  You can download it here: Slicing Up the Gecko.

The Cliff Notes: Insurance is going to be the next revolution in fintech. Just as start-ups have begun to dismantle retail banking, consumer-focused, technology-first companies will redefine how we shop for, purchase, use, and even think about insurance.

In this post I’d like to air some speculative ideas I’ve had about insurance, specifically for middle-class and working-class folks, and also explain why we care so much about such a hidebound industry.

Building a safety net for all Americans

Imagine the daily lives of Americans. What goes wrong? We get into car accidents; our roofs are blown away by hurricanes; our TVs are stolen; we die. These are the traditional problems that insurance tries to solve for. But there are others, aren’t there? Our cars break down unexpectedly. A phone is stolen. A job is lost, or hours cut back.

Many of the problems that cause folks to utilize incredibly expensive short-term credit can be alleviated by insurance – at a radically lower cost, basically by defraying the risk over a larger population. The trick is figuring out how to sell an extended vehicle warranty in a market in which all extended warranties today are scams, or how to sell a wage insurance policy that workers can actually believe in.

Aspiring to stability

I’ve been puzzling over a new Pew survey that asked Americans about their hopes and dreams in the context of their financial lives. 

“When asked whether it was more important to them to have financial stability or to move up the income ladder, 92 percent of Americans choose security, an increase of 7 percentage points since 2011.”

The mythical ethos of America is that we are a nation of strivers: constantly trying to make it big, catch a break, risk it all to get ahead. Maybe this was always a myth — but it’s become even more mythical since the 2008 financial crisis and recession. Even during the so-called recovery (from 2011-2014), 7% of Americans — that’s 20 million people! — changed their priorities to focus on keeping what they have, not getting more.

Re-focusing on the big problems

That’s a big shift. Smart, new insurance and savings products should (and will) be created to meet this growing demand. With my investing hat on, I am excited about many of the deals Core is seeing.

With my civic hat on, I think: Many Americans are struggling. Many start-ups are working to alleviate the symptoms, but few are addressing the biggest problems. What does it mean to have a “good job” today? What kind of a life should the average American aspire to? What kind of economic systems and processes and, perhaps, companies can imbue the next generation with the grit, character, and creativity they need to flourish in a time of great technological progress — and economic upheaval?

I am optimistic that we will find a way, and that technology can help us build solutions to the biggest problems. But they are hard! How could technology solve unemployment, or reduce income inequality, or ensure an economic baseline for all Americans? As we have looked deeply at insurance, I am reminded again of how much change is yet to come — and how much possibility remains for growth and development.

A few weeks ago, I had the chance to meet with the director of the US Treasury, Jack Lew.  He noted shock at how much more currency his shop is printing today than when he came to the job – on an absolute basis.  There is about $1.2 trillion of US physical currency in circulation today.  How come?

Half of small transactions (less than $50) are made in cash.  At the current rate of decline, cash will be a major form of payment for 200 years!  So, anyone who says this year is the year is out to lunch. For fun, approximate daily circulation:

• 38 million bank notes
• 42 million coins
• $2776 per US resident
• 6% of US GDP (vs 3% in Canada)

Who are the perpetrators? Everyone.  But, as you might expect, low and moderate income people use cash the most.  57% of payments for those who earn less than $25k per year (vs still a whopping 33% of those who earn more than $200k per year).  But you might be more surprised to hear that young people prefer cash more (18-24 year olds prefer cash by 40% vs 25% of old farts).

But the big driver really comes from business.  Merchants don’t fancy paying 3% for credit card transactions – and that’s why half of small businesses don’t accept credit cards.  Particularly those who have many small charges (66% of $0-10 transactions are cash, vs <15% of >$50 transactions).

The San Francisco Fed sourced lots of these stats and I was pleased to have their Barbara Bennett in the audience when I spoke at Payments 2015 earlier this week.  Barbara and her team at the “Cash Product Office” (who knew?) found that 30% of US consumers prefer cash (22% prefer credit card and 43% prefer debit card).  I think people like cash for the following reasons:

• Universal acceptance
• Free
• Liquid
• Control
• Anonymity

No rocket science, and you could quibble the details.  But consider these factors, as you consider some potential cash challengers: Bitcoin, Venmo and Apple Pay.  There are many more, of course, but these are en vogue and represent important categories of presumed cash-killers.

Bitcoin. Last year was clearly quite exciting for the Bitcoin world, and I believe crypto-currency technology remains incredibly important to the current financial services revolution. Bitcoin also offers most of the cash advantages: it’s free, it offers control and anonymity.  It is not universally accepted – and never will be, in my opinion.  And because of that, it’s not effectively liquid.  So, no chance.

Venmo. The social payment protocol Venmo is todays PayPal (and it is, in fact owned by PayPal).  It’s free and offers control and is incredibly easy for consumers and developers to use.  Both are important boons, but a replacement to cash it is not.

Apple Pay.  I imagine the lines are already forming outside Apple stores for Apple Watch.  And I would guess that millions will wonder how they ever lived without one a year from now.  The Apple Watch will also give an important boost to Apple Pay by making that oh so onerous reach into the pocket obsolete.  But the only cash-like quality it offers is control.  So this – and its imminent Android equivalents are no threat to cash.

So, if cash is going to stay and these modern technologies won’t make a meaningful dent, then what are we to do?  The question reminds me of a long-standing challenge in the artificial intelligence community: if 50 years of our brightest minds can’t make a machine do what a one month old human can, then what’s in store this discipline?  The month old baby is a poor parallel for cash, but perhaps not so bad, either.  Both are deceivingly complex.  My alma mater, the MIT Media Lab, generally fell into a new camp: let’s focus on machines augmenting and enhancing human intelligence, rather than trying to replicate it, poorly.  I think the same is probably in store for cash.  Let’s find ways to augment and enhance the use of cash, rather than wishing it away, poorly.

As it turns out, a number of startups agree:  PayNearMe does this famously.  Basically, they enhance cash by letting people use it, but give it some of the benefits of digital money.  You can order a Greyhound bus ticket, for example, online, and elect to pay by cash.  Then, at a local 7-Eleven, you can pay by cash and get a custom receipt/boarding pass and reserve a seat, which would otherwise only happen when you stand in line (if you were paying by cash).  TIO Networks (full disclosure: my fund has invested in this company) allows “cash preferred” customers to pay 100s of their bills at a kiosk, with a teller and by mobile phone, interchangeably.  Wal-Mart has been an important player in bringing a diversity of “cash enhancing” financial products to its customers, including low-cost check cashing, bill pay, remittances, prepaid cards and bank accounts of many shapes and flavors – in spite of being thwarted to get a bank license itself.

These companies are just scraping the surface of what is possible.  For all the cash we spend, why shouldn’t we be able to invest it, save it, build credit with it, and be protected and informed how to use it most efficiently as we are able to with digital money?

And indeed income inequality is staggering.  The top 0.1% earned 12% of all pre-tax income. Wage growth was basically flat in the past decade.  The median household income is flat since the 1980s. 23% of young college grads are unemployed.  60% of mid-wage jobs were lost in the Great Recession and represent only 22% of post-Recession jobs.

The mobility gap is staggering. The bottom quintile of the US is worth $2,700, which is far worse off then their parents’ generation (compare that with the top quintile median net worth of $630,000 vs their parents’ $500,000).  55% of households have less than a month of savings in the bank.  75% of Americans are not confident they could secure $2,000 within a month if necessary. The top 20% spend more on housing than the lower 60% spend on housing, food and transport combined.  Healthcare costs are the number one source of bankruptcy and have increased three times as fast as wages since 2002.

The reality is a new normal for most people.  Confidence in banks is at a 30 year low.  People report they trust tech brands, like Google and Apple, more than the big banks with their money.  And people aspire to economic stability – no longer economic mobility.

At the heart of it, people need better paying jobs. The private sector needs to step up.  The public sector needs to step up.  We need to reinvent  education and vocational skills training.  And the financial services industry – both startups and incumbents – need to create tools that help us retain more of our money, leverage our ability to earn more money, create dynamic financial services that fit our dynamic reality, invest in our own and our kids’ future, and protect us from life’s increasing and inevitable pot-holes.

Oh, and did I mention that our portfolio company, Oportun (formerly Progreso Financiero), which is targeting the core of this issue in a way that’s both mission driven and commercially thriving, closed on $90 million equity financing in a growth round?  Fidelity, Institutional Venture Partners and an unidentified institutional investor led the round.

Bigger than an Escalade

Auto sales and finance is a massive industry – with over 51 M units sold in 2013, and total leasing and finance revenues projected to hit nearly $98B in 2014. State laws, like those Tesla is currently battling, have historically prohibited direct sales from manufacturers to consumers, which means that in the age of Amazon efficiency, buyers are still stuck footing the bill for dealer overhead and OPEX. Resources like Truecar, Kelly Blue Book, and Edmunds.com have reduced – but hardly eliminated – asymmetry of information between dealers and buyers regarding car value, but can’t alter the fact that fees and mark-ups are essential for dealers to cover their overhead. Thus dealers will continue to push features and pad margins through obscure little line-items like dealer documentation fees – which vary as much as $500 by dealership.

Start-ups like Carvana and Beepi are taking used car sales online – reducing opex and passing on savings to both buyers and sellers. Carvana, which acts as a virtual dealer, leverages online distribution and direct-to-consumer delivery to manage inventory more efficiently and eliminate costs associated with managing a physical lot and salesforce. Beepi facilitates P2P sales via an online marketplace – managing the delivery process and offering sellers a purchase guarantee if no one buys within 30 days. Both companies are able to shave as much as $1,500 –to $2, 000 off the price of a used car, with Beepi further promising sellers a premium over dealer trade-ins (they just raised $60m).

Dumber than a Hummer

Like auto sales, auto finance is ripe with opportunity to reduce costs and improve customer experience. Misclassification of borrowers is a persistent problem within auto, just as in other consumer finance verticals. For example, 66% of generation Y (16-33 year olds) are classified as subprime. Clearly, 66% of this cohort is not conventionally high risk – a large majority simply have little to no credit footprint, or relatively large debt/income ratios due to student loans. Companies like L2C and Neo Finance are looking beyond credit scores and traditional data to segment thin/no-file borrowers from truly high-risk auto loan applicants. And better data is just part of the puzzle. Better models that can parse, contextualize, and learn on complex data sets are also needed. Companies like Cognical and Zest are already pushing the boundaries of underwriting technology in consumer finance – similar innovation can be applied in auto.

Maserati on a Mazda Budget

The complexities of underwriting aside, there is also significant opportunity to increase efficiencies via better distribution of auto finance and insurance – and opportunity to improve customer experience in the process. Consider buy here pay here lots (BHPH) and aggregate auto financiers. These are lenders of last resort – charging 18% -29% APR to high risk borrowers, and offering less flexible terms than banks, credit unions, or the captive lenders (Ford Finance, etc). Yet over one in five BHPH borrowers are prime or near prime. Collectively BHPH and aggregate lenders control 23.12% of the auto loan market (or ~$225B loans outstanding), meaning anywhere from $45B to $55B in capital could be more efficiently deployed in lower cost products.

This is clearly a distribution problem waiting for a marketplace solution. A large segment of borrowers would benefit significantly from increased access to and understanding of the financing options available to them. Likewise, a large segment of lenders (such as credit unions) would benefit from the opportunity to compete for these borrowers. We anticipate auto finance will follow evolution seen in consumer and SME credit – where the rise of online to marketplace and aggregation platforms have enabled borrowers to find and compare a variety of products from numerous lenders in a transparent and efficient way. This evolution is already occurring in auto insurance. Coverhound, (disclaimer, we’re invested), allows customers to browse, compare, and buy plans all online – saving them literally hundreds of dollars on their premiums.

Transparent online and mobile platforms will not only empower borrowers to access the best products available to them in the market, they will also cut out the spreads that dealers currently layer on to finance and insurance (“F&I” in industry parlance) products. Dealers make most of their margin on F&I sales – over $1,200 per vehicle on average for the publicly traded dealers. While F&I is just 3% of dealer revenues it accounts for about 20% of profits. These spreads are added to base rate in order to compensate the dealer for selling the product on behalf of the lender or carrier. In the case of financing, dealers often have discretion over the amount of the spread, and may add on anywhere from 1-2.5% APR. Unfortunately, this incents dealers to land customers in the priciest car (and loan) they can afford (or can’t), to increase the value of that spread. Even worse, recent CFPB analysis found evidence of discrimination in the application of APR mark-ups, with African Americans, Hispanics, and Asians consistently receiving higher discretionary mark-ups than white customers.

Given these misaligned incentives and potentially biased behavior, it’s no wonder that consumers are now spending 11 hours on average researching a car before they set foot on one lot – presumably to arm themselves with information and avoid the car sales guy like Ebola. Disrupting information asymmetry was a natural first step for online auto – but the next wave of energetic start-ups will finish what TrueCar began, by closing the loop between knowledge and action. Very soon, customers will be able to research, browse, finance, and insure their car online – with the vehicle delivered to their door in less time and for less money than ever before.

(Thanks to Colleen Poynton for her thought-leadership on auto finance)

Babak had nothing to do with financial services for the emerging middle class, economic development, or financial inclusion.  To make things worse, perhaps, he was a politics geek.  An inside man.  A strategist. A change agent – or some such nebulous description that when applied to many, is meant to cover up a lack of direction, vision, or any real skills.

He co-founded a consulting group about twenty years ago called the Public Strategies Group. Their clients were federal, state and local government organizations.  They shunned standard strategy, organizational development, IT or process improvement type of consulting opportunities – the standard fare.  They were into reinventing government.  Not just talking reinvention.  Actually reinventing: to make government accountable, customer centric and effective and delivering outcomes.  They weren’t liberals using reinvention as a ruse for increased spending, nor were they conservatives using reinvention as a ruse for cutting back taxes.  Their team, Babak included, wrote the blueprints for that movement.  They left their fingerprints on many federal agencies, many governors’ offices and hundreds to local agencies.  And on me.

I remember clearly when Babak was thrown out of state government (he was the deputy revenue officer for Minnesota, where he lived his whole life) when a new governor brought in his own team.  We were up at a friend’s cabin and he and his pals were drumming up this new company.  It was the first startup I saw being created.  Something from scratch.  So exciting.  I have spent my whole career in and around startups.

And this idea of reinventing government, reinterpreted, has informed my every move since they started Public Strategies Group.  I loved that the traditional bi-polar forces that remain at work in our government needn’t be the final, or smartest answer.  I loved that some of the key ideas in capitalism could inform – and transform – governance, and not in a Mickey Mouse-let’s-privatize-everything kind of way.  My take on this was that capitalism is the most effective problem solving tool humanity has created, and that we should apply it to the world’s most intractable problems.  I even helped his company in between things: We built a remarkable accountability tool for then-governor of Iowa, now secretary of agriculture, Tom Vilsack.  Even more amazing is that it’s still up and current, after 12 years or so: www.resultsiowa.org.

Babak – I called him Amu (which means uncle in Farsi, even though technically he was my Dayi – my mother’s brother) – nudged me, coached me, invested in me (literally and figuratively), challenged me, bailed me out, believed in me.  And I suppose he still does today, as he is so clearly a part of me.  Here’s a picture, in case you were curious, in one of his signature Bill Cosby sweaters from the ’80s.  I can’t say how much I miss him.

So in my own way, I’m continuing his work; his style of being.  Through our approach at work, how I parent, how I envision my family, and nudge, challenge and cajole – and hopefully support – my colleagues and loved ones.  A year ago today, I was on a plane to Minnesota, instead of to our annual conference.  I’m excited to stay here in LA, our conference around the corner (tomorrow, in Century City).

Google Self-Governance on Ad Words for Payday Lenders

In theory, online payday loans, bereft of brick-and-mortar costs such as rent, labor, and more limited risk management tools should be less expensive than traditional corner-store payday loan providers. Not so.  The cost of getting customers online, primarily through online ads, is huge, in part because there are so many “lead generation” agents and unregulated off-shore or tribal lenders bidding for the same ad words. Ultimately, this makes online loans typically more expensive.

For example, the Pew Trust estimates storefront payday loan costs at $10 per $100 (261% APR) to $20 per $100 (521% APR), depending on state regulations, for a typical 14-day loan. Online payday loans cost significantly more – an average of $25 per $100 online (652% APR). Online loans cost so much because ad words like “payday loan” are extremely expensive, with prices bid up by a mix of lenders and lead generator.

In the big picture, online distribution for good, services, and loans is supposed to bring costs down for consumers through “dis-intermediation.” But what we see in some markets (like payday) is a new class of opportunistic “intermediators” getting in the way of customers who are trying to connect directly with lenders. Unfortunately, payday is a commodity market, where there aren’t strong brand signals that help customers to determine which offerings are the best. This opens the door for lead generation agents to needlessly make a quick buck “referring” customers, or unregulated lenders to drive up already high costs for everyone.

An anatomy of who is buying adwords for “payday loan” on Google. A year ago it was half non-regulated lenders. Today it’s better – 3 out of 8.

The average cost per click (CPC) for “payday” on Google AdWords is $6.52. That adds up fast when you realize that only a small percentage of the people who click on your ad probably end up buying it.  If one in ten apply, you start $65 in the hole.  If it’s one in 20, it’s $130.

So what can be done to bring down online payday loan costs? The fastest way would be for Google to regulate its own ad word sales: by weeding out unregulated lenders and non-lenders, such as lead-generators, and only selling ad words to fully compliant lenders. Although it would mean fewer ad dollars for Google, prices for low-income Americans trying to access payday loans could come down substantially.

And there’s precedent.  In 2010, Google agreed to limit pharma adwords to entities vetted by the National Association Boards of Pharmacy “VIPPS” program, along with a set of digital tools to watch for rogue Viagra ads and the like.

What do you say, Google?  What was that about doing no harm?

This year includes many firsts:  our first bitcoin finalist.  Our first small business finalist.  Our first international finalist.

Blossom is a faster, better bitcoin wallet for mobile that’s making cryptocurrency accessible and reliable to more than wild-eyed libertarian cowboys. Blossom is moving quickly to get non-technical users onto the blockchain bandwagon.

Dealstruck is Prosper for small businesses: an online small business lender that’s scaling rapidly to provide cheaper, faster credit for America’s job creators. This is a huge market and we’re excited to see a great team get it right… so far!

Entrepreneurial Finance Lab (EFL) provides a psychometric test that yields actionable credit risk information for lenders in emerging markets, for customers that don’t have credit scores. EFL’s test could allow millions of entrepreneurs around the world to become credit-worthy.

Moneyworks offers a holistic debt management package, allowing users to control their spending through a prepaid card and tightly integrated mobile app. The “holistic” part is what’s exciting: we see tons of PFMs that don’t work because they don’t try hard enough to influence users’ behavior.

Congratulations to these finalists.  On June 6th, they’ll duke it out and ~800 attendees of our EMERGE Forum will decide in real-time who wins the big prize and takes home the honor.  Thanks to all those who threw their hat in the ring.  I should make a special shout-out to Rezzcard’s Alex Cooper, who has participated four years in a row and whose walk-in rent payment systems are quite innovative, indeed!

The American Banker and our partner CFSI are the brains behind Emerge, which this year rebranded from its previous title, the Underbanked Financial Services Forum. Here are five reasons you MUST attend:

First, some of my favorite new voices are speaking: Dan Shulman from Amex is always ready to think massive.  I’m currently reading behavioral economist Eldar Shafir‘s latest book, Scarcity, and it’s eye-opening.  And Lisa Servon, from the New School, has shaken up our community with her eloquent writing on the value of much-maligned check cashers and the realities of their customers (WSJ, New Yorker, Atlantic).

Second, a truly diverse crowd.  No, just not bankers. Not just card folks.  Not just advocates.  Not just regulators.  Not just investors.  Not just entrepreneurs. Not just the big processors.  Not just analysts.  Not just payday lenders.  All of them.  A big, messy melting pot.  And if you know anything about our industry, while you may not like it, IT TAKES ALL OF US.

Third, this year MasterCard is sponsoring the best-ever Core Innovators Challenge, where the best and brightest will be subjected to the largest expert panel in the industry to determine the most innovative solution for the underserved.  The nominations are in, and we’ll shortly announce the four finalists who will present.  At stake: fame, fun and fortune (well, $10k).

Fourth, if my friends at CFSI are good at anything it’s great content.  Panels aren’t thrown together willy nilly from sponsoring companies.  They are hand-picked, deep tissue massaged and dress rehearsed to deliver new insight, genuine debate and wisdom from experience.  So you will not just be attending sessions, you’ll be annoyed you have to choose between concurrent sessions.  Won’t that be a nice change from the norm?

Fifth, real experiences in Los Angeles.  Leave the Hyatt and join CFSI on its popular (usually invite-only) offering to experience financial services for the underbanked.  Sponsored by Amex, the session is called FinX, and it’s an eye-opener for even the most grizzled vet in our space.  Plus, LA is the largest US market for AFS and money transfer, so check us out.

If you’re an entrepreneur – let me know you’re coming.  Everyone else, register here.  Early bird deadline is April 25 (and the price only goes up from here).  Use CORE as a special code for reading my blog and you’ll get $200.  You’re welcome!