Financial technology used to be the back-office support function for bankers and traders. Venture capitalists barely invested in the sector. Public companies in the industry were rarely compared to the high-growth darlings of Silicon Valley. But all of this has changed. Over the last decade, private venture capital skyrocketed and the share of investment dollars going into fintech increased from 5% to nearly 20% -- a level equal to the fair share of Gross Domestic Product attributed to the financial industry. Fintech has found its place in the innovation economy.
As fintech grew, it became increasingly difficult to tell the hype from reality. Over the last several years, chatbots and artificial intelligence, blockchain and crypto assets, roboadvisors and neobanks, and myriad other digitization symptoms have become buzzwords in the trade media. Large global banks spun up corporate venture arms and digital incubators, investing in, acquiring, or copying solutions from emerging companies. Globally, Eastern technology companies launched messaging super-apps with hundreds of millions of users and embedded financial services, outcompeting the potential of Western-regulated jurisdictions. American tech firms dug in deep, too, finding ways to provide financial products without touching the third rail of regulation. Here we are in 2019 – trying to find signal amongst all this noise.
From Product to Customer
Let’s set some things straight. First, finance is much simpler than most people make it out to be. There are factories which make products – banks holding deposits with interest rates, or investment managers making investment funds, or lenders and insurers underwriting some customer risk with capital. Then, there are stores that sell the product – bank branches, financial advisors, insurance salespeople, or lending officers. Between these two extremes are complex value chains of humans, balance sheets, and software, woven together by regulation and industry habits. But at the end of the day, clients visit a store and buy some financial product.
Digitization is happening all along the value chain. In the front office, consumer relationships are moving out of physical conversations and into cell phones. Symptoms include European neobanks like Revolut, American roboadvisors like Betterment, or Asian insurtechs like Ping An. Raw automation is being applied to the process of assessing, onboarding, and serving the customer. More speculative interfaces use machine learning and natural language processing to generate chat and speech, instead of letting people interact with a live agent.
Such straightforward automation has resulted in massive vertical competition between various industry sectors, as they pivot to bundle and cross-sell their services. The best digital lender is now competing with the best digital payments app for the chance to offer the best digital bank account. Investors like Softbank have put billions of dollars into direct-to-consumer fintech companies for the chance to serve the currently-unprofitable Millennial customer. Many mobile apps have millions of small accounts as their clients. Traditional financial investors are skeptical that the economics of these businesses can work in the long run and return capital. To make matters even more competitive, large incumbents like JP Morgan Chase & Co. (JPM), Goldman Sachs Group Inc. (GS), Banco Bilbao Vizcaya Argentaria, Banco Santander (SAN), and others have launched fresh takes on their product-led solutions. Digital banks and investment advisors are the rule, not the exception.
Straightforward automation has resulted in massive vertical competition between various industry sectors. The best digital lender is now competing with the best digital payments app for the chance to offer the best digital bank account.
From Customer to Platform
Digital point solutions are a fine start, but they are not the destination of our fintech journey. When you need buy Aspirin for a headache, you don’t go to the Aspirin store. You go to the supermarket or the pharmacy, which has thousands of products on offer. Similarly, today’s social and e-commerce platforms offer thousands of features to their clients. Amazon Prime subscribers get next-day delivery on diapers and toys, and a catalogue of movies to watch for free. WeChat users can text, shop, move money and invest from the same phone app. In the world of attention platforms – whether powered by Alphabet Inc.'s (GOOG) Google, Facebook Inc. (FB), YouTube or otherwise – consumer intent is key. Financial products are mere features that live inside this panopticon.
The advent of financial Application Programming Interfaces, powered by data aggregation sites in the U.S. and the regulatorily-mandated PSD2 in Europe, enable banking and investment data to travel across different destinations. Financial companies that rent their licenses, charters and balance sheets to tech companies have been billed as banks-as-a-service. They enable any distribution experience to include relevant financial capabilities. This is challenging for traditional incumbents, who are used to manufacturing products and pushing them at people through sales channels. Instead, consumers now interact with finance at the edges of their experience. Tesla Inc. (TSLA) offers its own car insurance, Greensky Inc. (GSKY) helps home improvement contractors offer financing to borrowers in their homes, and Affirm puts credit into an e-commerce check-out experience. You don’t need to shop for finance, because it will now come to the point of sale directly.
We are quickly coming on an age of financial generics. Just like Walmart Inc. (WMT) can sell you both the branded Aspirin and the generic knock-off drug, or the Charmin toilet paper and the generic home brand, it should be able to sell you a generic financial product. These products are not white labelled high-end versions of Goldman Sachs and Apple Inc. (AAPL) coming together to offer a credit card. Rather, these are the equivalent of Foxconn off-brand smartphones, built using the learnings from the iPhone. As the plumbing of finance becomes exposed and transparent, in large part though data aggregation and blockchain-based infrastructure, cheap generic solutions will proliferate. And we will be better for it.
You don’t need to shop for finance, because it will now come to the point of sale directly.
Historically, financial product manufacturing was a high-end craft supported by bespoke software. Just like the Sistine Chapel was a work of art at the peak of human skill, core-banking systems and wealth management platforms are highly-architected and custom solutions. However, painting portraiture had no chance when faced with the invention of the camera. Similarly, today’s financial infrastructure sees a fundamental challenger in the shape of blockchain-native finance. Unlike the legacy chassis, which is different for each firm (or technology vendor like Fiserv), the new one comes with built-in settlement, digital scarcity, account opening and money movement, trading and underwriting engines. Every year, billions of dollars are spent by crypto miners to provide data protection and cybersecurity, and thousands of open-source developers regularly improve the software for all users. While today’s markets are still obsessed with the financial attributes of Bitcoin, the programmable blockchain networks of the future, like Ethereum, are re-inventing data standards and primitives to create a more efficient finance factory.
The first implementations of this new vision of finance have already demonstrated functionality in payments, banking, digital investing, asset management, and lending. While nascent, these symptoms show us how larger institutions could adopt innovations and re-design their industries. The major barriers to such transformation is regulation and the law, which are both written in response to how industries formed in the past – and their sins along the way. While regulation is absolutely required, you would not think the same way about regulating a horse and a car. Geographies that are quickest to this realization will see the highest benefits from leapfrogging infrastructure. In the same way that M-Pesa stepped in as telecom-built mobile money in Kenya when traditional banking failed to materialize, so will digital assets and financial instruments proliferate where the soil is most welcoming.
Underlying all these changes is the human capacity to evolve and adopt new behaviors. How is it that Americans have refused to upgrade from credit card swiping for decades, while it took only a few years for the iPhone to usher in touch-based interfaces? Therefore, even the best financial manufacturing will get nowhere unless entrepreneurs design beautiful interfaces, and companies distribute products to the millions. The fintechs have had their start. The banks are catching up, though many have lost the battle without knowing it. The tech companies are taking a hard turn into finance, directing their billions of website visitors to partners and vendors. It is your behavior that will determine who wins – just download the right app.
[Lex Sokolin is the Global Head of Fintech and co-Head at Consensys. His opinions are his own, although Investopedia commissioned this editorial from him]