By Ruzbeh Bacha, founder and CEO of FinTech startup CityFALCON, and runs value investing meet-ups in 9 cities. He has been investing and trading in the sock and other markets for the last 15 years, is a qualified accountant and has an MBA from University of Oxford.
Today, there is a new breed of tech start-ups redefining everything in finance. Broadly, we call this FinTech, and there are myriad subcategories, like PayTech, InsureTech, InvesTech, RegTech. The tireless march of technology will likely continue unabated in the financial space, and we are optimistic about its prospects.
The public has not been particularly trusting of the banking institutions for decades, but a stronger aversion to “too big to fail” institutions emerged in the aftermath of the 2008 Financial Crisis. A recent article on Bloomberg outlined how middle and lower class Americans are still suffering from the crisis while the upper tiers have not only recouped but have increased their wealth since. The Euro crisis has threatened to tear apart the EU year after year. Austerity ripped through European countries causing misery and sky-high youth unemployment. Economic woes, partially due to the outsized influence of banking in London, triggered the UK to vote for Brexit, followed shortly thereafter by Americans voting in Donald Trump as a popular backlash, again partially against Wall Street.
At the same time, tech has delivered on many of its promises to even the playing field, bringing everyone a voice via social media. The tech companies have lowered prices for consumers, and the champion of online retail, Amazon, continues to compete relentlessly on pricing. Social media, smartphones, and other consumer technologies are ubiquitous, and the public perception of tech companies, while recently marred by privacy fiascoes, tends to remain above that of the banking sector.
The Global Landscape
Thus shall the FinTech revolution be powered in the West: a public trend away from traditional finance and, at the same time, towards tech companies. Moreover, governments have pushed legislation that would force banks to open their APIs to the public and essentially allow access to their powerful backends (this is PSD2 in the EU), throwing open the doors for greater FinTech innovation outside the complete control of traditional banks.
Outside the West, FinTech has had enormous success in Africa, Asia, and Latin America. Africa’s land area and population dynamics means rural areas are often left without access to secure banking, but FinTech is changing that. Paytech holds broad appeal in China, where the FinTech sector is rapidly expanding. Across Latin America, the hunger for connecting borrowers and savers as well as a need to reach a large unbanked population is driving FinTech’s expansion.
The Old Guard are not to be caught flatfooted, though, as they have recognized the need to incorporate consumer-level technology into their line of products. Most banks offer some sort of consumer-facing tech, and many stock exchanges have been keen to develop FinTech for themselves, often collaborating with FinTech startups.
Around the world, FinTech looks to be in a position to expand alongside the burgeoning technology space, which itself is always on track for more innovation.
Overview of FinTech Component Spaces
In this section, we will look at the various areas of FinTech application. Since technology reaches almost every aspect of finance, FinTech can be found in almost every niche in the financial world. The current market is skewed towards the retail level (consumers), and particularly for consumer payments.
FinTech has made great inroads into the markets traditionally dominated by banks (or cash for the unbanked) in payments. In many countries, paying at a retailer by tapping a smartphone is commonplace. Paying via an app on a smartphone for online purchases is commonplace. With PSD2, any developer that wants to create a payment app will be able to initiate payments from a linked bank account, and payment apps will likely become much more prevalent. The loss of the bank’s monopoly on its customers’ data will herald a new era of freedom of payment methods.
Social media has been immensely successful. Facebook counts billions of accounts, and other social media platforms are an excellent source of information, as Twitter is for economic news directly from heads of industry. Under the social media finance umbrella, there are a couple different components. There is social information sharing, whereby seasoned traders or investors share their ideas with followers. Other platforms, like investing forums, allow individuals to bounce ideas off of each other or otherwise test out their ideas against others.
Social finance also covers microloans and P2P lending. Those with cash to spare can loan it directly to those who need it, either next door or across the planet, largely excising the middleman of the bank. While these types of companies do not entirely eliminate interest rates, they can greatly reduce the rates (they still need money for operations). However, their main goal is not to benefit shareholders but to benefit the borrowers by making low-cost loans available. This rebuke to traditional profit-motive-driven lending drives part of the trust in tech companies and part of the distrust in traditional financial institutions, furthering FinTech’s moral position in the public psyche.
Cryptocurrency and Blockchain
Last time we wrote about optimism regarding FinTech, the cryptocurrency wave was yet to rise. Now, a few months after the height of the crypto valuations, evangelists are a bit quieter about their convictions that cryptos will soon replace fiats. However, the idea of a decentralized, uncontrolled network for finance is not lost, and plenty of companies continue to raise funds for their blockchain or cryptocurrency applications via ICO. Blockchain itself, even outside currency, has plenty of applications, particularly in regards to a single network for data storage and automated program execution.
Many traditional stock exchanges are considering blockchain technology, which is one area where the traditional Old Guard of finance is eager to develop its own FinTech. Of course, small, agile startups still dominate the blockchain space, and they are often partnering with the Old Guard to develop new solutions to old systems.
An important trend in FinTech is the opening of APIs and companies’ store of data. Modern finance produces oceans of data, and with API access, anyone can build their own application to process and analyze that data. PSD2 is one example, as are the APIs available for free from many of the cryptocurrency exchanges. For commercial purposes, most APIs charge a small fee.
But the use of APIs in finance is not limited to banking information and data generated by exchanges. Social media and geospatial data could be gleaned about an area to help businesses decide if the area garners sufficient foot traffic to make opening a business worthwhile. The public, open access technology means anyone can launch a FinTech firm, not just the traditional financial institutions armed with overwhelming amounts of cash.
AI and ML
Artificial Intelligence and Machine Learning are used by traditional financial institutions to accurately detect fraud. Big Tech and the Big Banks have a major advantage over smaller companies in this domain, as AI and ML tend to work better with more data, even if the algorithms are less sophisticated. Though the most advanced algorithms are likely being employed by the biggest firms, too, as they have the most money to hire the brightest people. On the other hand, many of these big companies, like Twitter, offer open APIs so smaller companies can collect the data they want or need and reject the rest, creating lightweight but efficient FinTech firms focused on a particular market niche or demand.
AI is also empowering the individual: robo-advisers charge extremely low fees for their services, meaning those with tiny amounts of capital can still invest and not dismay at the loss of their gains via broker and advisor fees.
FinTech is also expanding under the guise of data analytics. The tech world is awash in data, and ML and AI algorithms are busy attempting to make sense of everything, make connections everywhere, and generally improve efficiency and convenience across all financial services. The traditional banking institutions are leveraging data analytics as are startups and non-financial firms, the latter employing data analytics to streamline business processes and make financial decisions based on empirical evidence.
Again, the bigger the firm, the more clout it will command in the area of analytics. Everything is tracked, including personal behavioral traits. Such behavioral patterns are analyzed for everything from fraud detection to ways to serve better advertisements. The wave of cheap computing power, in-cloud or on-site, means that more companies will emerge to take advantage of cheap hardware, competing on customer-oriented strategies more broadly (as opposed to stockholder-focused strategies).
Chatbots and Personal Assistants
The chatbot has come a long way since its early days as an instant messaging entity that could ask a few basic questions and spit out a few adequately accurate responses. The modern chatbot might assist us with banking questions or send our balances. The main advantage for chatbots over traditional computer interfaces is natural language processing, whereby a consumer can speak or type complex, human-level content and the chatbot responds appropriately. Checking balances is relatively easy by tapping a screen a few times. Getting balances, the last five transactions, and what was spent last Wednesday requires many more taps and swipes, which can be simplified for humans by speaking a sentence or two: “what were my last five transactions and my transactions last Wednesday. Also, what’s my current balance?”
The Human-Machine Interface
Chatbots and slick, intuitive app designs advance the human-machine interface. The smartphone is increasingly an extension of our physical bodies, and the way we interact with our world is slowly but surely shifting towards a hybrid digital-physical reality.
Efforts to address the security challenges of modern consumer finance has led to the rise of biometric techniques for identification. Both physical and behavioral biometrics have risen as strong contenders for this new area of security. Authentication may not fall precisely under financial technology, but it is certainly relevant for the industry.
Without more secure authentication methods, like biometrics, a successful attack on a large FinTech application could cause a crisis of confidence. As tech firms still largely enjoy the advantage of positive popular perception, FinTech firms will need to pay close attention to security to avoid a catastrophic shift in public perceptions. Biometrics is one way this will be accomplished.
A much less sexy way FinTech has become pervasive is digital banking and machine-central banking. There is a plethora of online-only banks to choose from, and these banks reap the benefits of extremely low overheads: low fees and better returns for customers. The far-reaching web of ATMs and the internet means customers can easily obtain cash almost anywhere while they never see a bank or teller during the life of their accounts. Sometimes the customers don’t need cash, anyway, because all transactions can be completely digitally.
For banks that continue to maintain brick-and-mortar locations, many have deployed sophisticated ATMs that offer a range of services absent of face-to-face interaction. Transferring money to another internal or external account, withdrawing cash in multiple denominations, and depositing cash and checks (with image processing) are already common. As more services are automated internally at banks, ATMs will likely boast more features.
The FinTech space is racing forward at the behest of traditional financial institutions, Big Tech, and Small Tech. Everything in society is technifying, and financial certainly has no reason to be left out of the transformation. The FinTech revolution is exciting, and you as a user, investor or institution are invited along for the ride.