When was the last time a financial institution disrupted the world of finance? I’d hazard a guess and say two decades.
For far too long we’ve been dominated by large financial institutions that created a moat using their asset base, regulation, and highly technical, cross subsidized products.
The moat is starting to break down due to the millennial demographic, the smartphone, pervasive connectivity, and the tools available to entrepreneurs. The entire financial system is at its earliest change, a renaissance if you will. There are trillions of dollars of annual revenues that can be captured by fintech startups.
Globally, investment in this sector topped $15bn in the past year alone — thats $2m on average across roughly 750 companies, from as little as $250k to as large as $150m and more. 35% or so of these were early stage deals. This sounds big but its a drop in the ocean. Just the five largest banks control over $15 trillion in assets.
My research leads me to believe that the big areas are probably around consumer finance, business lending, and payments. Why these? Well, they follow from what I perceive above to be the areas that can break the traditional moat:
- Millennial demographic — Anyone who is under 40 today is less trapped by the old way of doing things. They are comfortable with online transacting and managing their businesses. They view their ‘financial requirements’ to be on-demand tools.
- Technology — from smartphones to connectivity, API’s, and tools, its simple and easy to create your own solutions, and mix and match from multiple vendors that suit your needs. Access to data allows unparalleled insights. There needs not be a reliance on huge legacy systems that financial institutions are bound to (for only psychology reasons)
- Conservative Incumbents invite competition — the ability to interpret and comply with regulation without the legal and compliance and risk overhead of the traditional providers is a big factor supporting innovation. Added to this is the incumbent ‘risk appetite’ thats allowing startups to serve the underserved or ‘less desirables’ (which always seem to hit the person who is lower income bracket or has insufficient history e.g. like starting a new business), and of course ‘quarterly earnings’.
- Local vs Global — given the nature of finance, the market size in each country, and the above mentioned points, there is a strong local element which will allow many successful players across global and local markets (e.g. i question whether OnDeck can compete effectively outside the USA with its competitors in say Germany, UK or Spain).
- Blockchain — possibly the most underrated factors is what may happen with the protocol that underpins Bitcoins and more. Right now, the solutions are too fragmented, and too reliant on Bitcoin, but if that can change, then the concepts of public/private registries can bring a whole new level of simple regulation, lower overhead, transparency and big data to the financial ecosystem.
I have no doubt that the traditional players will do their best to overcome disaggregation, but with the lower share of wallet they receive, they will probably become commodity type utilities with certain niche areas. The efforts of having new units that reinvent banking seem to me like the tail wagging the dog. And by the time that the people in those boardrooms change, my bet is that the new players will have had time to emerge and cement themselves with market share.
*In our portfolio we have over 15 fintech companies globally, primarily across payments, business lending and consumer finance.
