NEW YORK (MainStreet) — Big banks are experiencing a revolution.
So say Brooks Gibbins and Gareth Jones of FinTech Collective, an early stage venture fund focused exclusively on financial technology. Some major financial companies have floundered in the new digital world, while others have focused on innovating in order to keep up with customers and maintain market share.
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Many major banks' "balance sheet assets are earmarked for investment in early stage companies," Gibbins said at Internet Week 2014 last month. "People are getting involved in incubators in the grassroots ecosystem," like Barclays' global startup accelerator. Similarly, JP Morgan has its Innovation Lab, and MasterCard has recently created an accelerator program of its own. Meanwhile, he says, "Big financial companies like Blackrock have made several substantive investments in people like Box and Prosper."
The more you look, the more you realize the financial world is harnessing the power of the Internet.
"If you look at things not in the general media, there's an insatiable appetite within the hedge fund and private equity world for assets and opportunities that drive yield," he said. "So you have peer-to-peer lending—a lot of those individual loans are being sucked off by hedge funds and family offices getting in the space."
Now that the financial crisis is five years behind us, stability is starting to return and firms are beginning to recognize at the highest levels that the industry is at a crossroads.
Major Problems Facing the Financial Services Industry
Although the financial industry has done a good job of building scale and structure to service its own needs over the last 30 years, Jones says, the sector is still regrouping following the financial crisis, despite its immense capital resources and global customer reach. Many banks are "struggling because they're being acquisitive and layering legacy software on top of legacy software, complicated financial products on top of more complicated financial products," he says.
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"They've made an industry that really only services themselves and forgotten who the client is," Jones says. "There's a stat in the U.K. that, if you look at balances, only 3% of the capital being lent by the biggest banks in the U.K. is going to businesses who are scaling and employing people and growing. The rest is being used to service the broader financial community."
Banks are currently grappling with three major hurdles:
- 1. Regulation: "Dodd-Frank is the suite of regulation that has crashed down on these folks, and what's extraordinary is that five years post-crisis, the deadline has passed for 45% of those rules," Jones said. "48% of the new rules haven't even been finalized, so banks don't know how to react. A quarter of the rules have yet to be proposed. On top of that is the fact that both Mr. Dodd and Mr. Frank have retired. Banks are dealing with a quagmire."
- 2. Trust: Headlines about banks' misbehavior such as insider trading and the recent Libor scandal have taken a large toll on consumer perception. "Fewer than 15% of Millennials would actually talk to and take advice from a financial advisor, so we see firms like Betterment doing extremely well," Jones said. "74% are more excited to see Google, Amazon or PayPal launch a product than a bank."
- 3. Digital revolution: "Millennials are driving this digital economy and . . . this demographic doesn't see tech as a friction to be wrestled with, but as a way to communicate, socialize, interact," Jones says.
Despite all these problems, changing times present fresh openings for the financial sector.
"The industry emerged to take your deposits and make money for themselves," Gibbins says. "Intermediaries are trading with intermediaries, and now there's a prolonged unwinding of that . . . you can think of it as an incredibly exciting period of innovation and opportunity."
The first big shift is modernizing access to capital.
"There's been a lot of chat today about blockchain, the tech underpinning Bitcoin," Jones adds. "Why in this digital age does it take T+3 for a trade to close and fund, or two to three days for a check to clear and money to arrive in my account? We're starting to see some protocols being built in that concept [of technological immediacy]."
Another opportunity revolves around Americans' new financial expectations surrounding retirement and the generational transfer of wealth already underway.
"If you think back to two generations behind us, the idea of wealth creation [meant you] put most of your assets in a diversified portfolio and expected an 8 to 10% return," Gibbins says. "That is just not the reality that exists today. Layer on that the transfer of wealth over the next 30 years from baby boomers to a generation that operates completely differently from how financial advisors interact today."
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Meanwhile, the movement over the past years from paper-based information storage to electronic data presents an opening for startups to take advantage of big data and other tech capabilities, but it also paves the way for banks to invest accordingly. Jones points to research company Reonomy and TradeBlock, which Jones describes as "essentially a Bloomberg terminal for Bitcoin." Quovo, meanwhile, is an infrastructure to help family office endowments with their performance reporting and managing underlying data.
"A lot of what happened in Silicon Valley [over the past 10 to 15 years] is poised to take place around financial services," Gibbins says. "And I look at New York as a key center of innovation."
--Written by Allison Kade for MainStreet