Financial technology, better known as fintech, has exploded over the last 5 years.
The rate of investment is growing by 45% annually and $US13.7 billion was ploughed into startups in the space in the last year alone, according to CB Insights.
As investment booms, finance and banking are being transformed by innovations like peer-to-peer models, crowdfunding, and contactless payments.
These changes have been driven not by established financial players, but by startups including now-huge players like LendingClub, Kickstarter, and Funding Circle.
Amy Nauiokas, founder and president of fintech investment firm Anthemis, says: “Big organisations can see where the markets have been, where they’re going, they can identify those trends. But I think the startups are always going to be able to move a little bit more nimbly.”
Nauiokas worked in mainstream finance at places like Bear Sterns, Barclays, and Cantor Fitzgerald before setting up Anthemis in 2008.
“We spent quite a long time in this space trying to convince people of the future,” she says. “You’d seem like a crazy person running around with a spreadsheet about how all the businesses were going to change on the back of technology and innovation. Some would listen and some wouldn’t.”
Those who didn’t are likely all ears now.
Loans: ‘They’re doing things that were impossible 5 years ago’
Perhaps the biggest area of upheaval has been in the way people and organisations lend and borrow money.
Traditionally, banks had the monopoly on this. They took deposits, and extended credit. In the process, the banks make money by charging borrowers more interest than they offer savers.
But recently a crop of startups have found a way to squeeze these margins and offer a better deal to savers and, often borrowers, by adapting an online model first popularised by music piracy — peer-to-peer.
Platforms like LendingClub and Prosper in the US and Funding Circle and Zopa in the UK have exploded in popularity, doing hundreds of millions of dollars and pounds in loans and attracting huge valuations.
Peer-to-peer as a model first rose to prominence with personal and business loans, but companies like SoFi and Earnest are applying the model to student finance and specialist lenders are also springing up doing everything from mortgages to invoice financing.
“One of the big things that P2P lending is doing is really making it easier for people to borrow money — that’s the big value proposition,” says Peter Renton, the founder of global peer-to-peer conference LendIt.
Where banks can take weeks to approve a business loan, peer-to-peer lenders take as little as 24 hours. The platforms automate huge parts of the underwriting process and plug into a myriad of data sources.
Renton says: “It’s easier, it’s quicker, it’s more user-friendly. These companies are not steeped in finance, they don’t have necessarily this background thinking that things have to be done in a certain way. They’re reinventing the wheel in a much more efficient way.
“Kabbage is the most innovative small business lender on the planet. They deliver a loan to a small business lender in 7 minutes. The way they do it is they connect all the data and the more data you connect with them, the cheaper it’s going to be.
“It started off with eBay data. They pull in all your eBay data and see what’s your daily sales volume, ratings. Now they pull in dozens of sources — UPS data, Amazon, QuickBooks, Yodlee, Yelp, Facebook. They’re doing things that would have been impossible 10 years ago, that probably would have been impossible 5 years ago.”
Renton says that “this is the true innovation in this industry — the ability to work with data, databanks won’t work with or can’t work with.”
There are a crop of online-only loan companies who aren’t following the peer-to-peer model but are still beating the banks at lending by simply using data in a smarter way, making them faster and easier for borrowers.
Banks are starting to recognise the skill of many of these startups. SunTrust Bank acquired online lender FirstAgain in 2012, later re-branding it LightStream.
Christian Faes, boss of UK peer-to-peer platform LendInvest, says many of his biggest customers are banks that lend over the platform. LendInvest specialises in peer-to-peer mortgages.
Faes says: “The short-term mortgage market is quite specialist. Banks see the short-term market as a good opportunity but they can’t really be bothered to go set up a desk, to hire business development people, to originate deal flow, to hire underwriters.
“It’s a lot easier to come along to a platform like LendInvest. That is really where peer-to-peer ends up. You get specialists in origination in particular asset classes and institutions come to them to get exposure of particular assets.”
Payments: Blockchain is coming
Alongside the way people lend cash, the way we pay for things is also being overhauled.
“We’re just coming out of probably a good 3 years of being pitched any and all payments model,” says Pascal Bouvier, a partner at fintech venture fund Route66 and a fintech blogger. “I’m personally suffering from payments indigestion.”
On the business side, companies like Sweden’s iZettle and Square in the US are making it easier for small businesses to accept card payments through cheap terminals. Companies like Sweden’s Klarna and Stripe in the US also make it easy for small businesses to accept card payments online.
Meanwhile on the consumer side, services like Apple Pay and bitcoin are offering people new ways to pay for the good they buy.
International money transfers are also being disrupted. UK companies TransferWise and WorldRemit have both attracted big investments from Silicon Valley funds for their approach to international money transfer.
Like the lending startups, the key appeal of these money transfer businesses are they make sending money abroad easier, faster, and cheaper. TransferWise uses peer-to-peer to match people with others sending money in the opposite direction, saving fees.
WorldRemit specialises in sending money to mobile wallets in emerging markets, essentially digitising the Western Union network.
Bouvier says: “A lot of the investments to date were on the easy stuff — digitalisation of front-end distribution channel, personal payment solutions, some type of debit card coupled to an app.”
But now there are signs of deeper changes in payments, within the so-called “rails” — the deep-rooted infrastructure used to actually process payments within and between banks.
22 banks from around the world, including JPMorgan, Credit Suisse, and Barclays, recently formed a coalition to develop common standards and use cases for the blockchain in banking.
The blockchain is the software that both powers and regulates cryptocurrency bitcoin. In its most basic form, it records ownership of bitcoin, as well as transactions.
Transactions are signed off by the parties involved using the software, then added to the blockchain, a long string of code that records all activity.
Once other transactions are added on in front of an exchange, the exchange is stuck there forever and can’t be changed, in the same way you can’t change a brick once it’s been built into a wall.
The software cuts out the need for a “trusted middleman” to sit in between parties in a transaction as it acts as that middleman. This makes transactions quicker, cheaper, and easier when compared to the current systems banks use.
The coalition of banks looking to adapt blockchain to mainstream finance is headed by R3, a startup headed by 32-year Wall Street veteran David Rutter. 22 top investment banks are now signed up.
Rutter told Business Insider recently that while payments are one use for the blockchain in finance, his remit is to explore everything from issuing shares on blockchain to using it as a “smart contract”, where the code generated is itself the contract.
Investment: ‘Platforms like ours deal with thousands of investors’
The blockchain could have a big impact on investment then, as well as payments. And investment is another area of finance that has already undergone huge changes thanks to technology.
The most noticeable change in investment over the last few years has been the rise of crowdfunding. A model pioneered in the US by Kickstarter, crowdfunding lets ordinary people fund projects online, either by lending them money or buying equity in the project or company.
In the US, platforms like Kickstarter and Indiegogo are dominated by idea or cause based crowdfunding campaigns — people can fund cool ideas like the Pebble smartwatch before they’re built, or even a new project from a big company like chip maker Marvell.
In the UK, however, crowdfunding on platforms like Crowdcube and Seedrs generally takes a different form. Established, growing businesses such as BrewDog and JustPark are turning to crowdfunding platforms as a way to raise money.
The “crowd” buy in just like traditional investors would when buying shares, rather than fund a specific project. The big difference between buying shares on the open market is there’s no way to trade once you own them.
But soon that could change too — Crowdcube, the UK’s biggest crowdfunding platform, recently partnered with City of London stockbroker Numis and the pair plan to launch the world’s first crowdfunded IPO next year.
At the time the partnership was announced Crowdcube CEO Darren Westlake told Business Insider: “IPOs are obviously public offerings, but if you look at what’s happened over the last couple of decades it’s been less and less possible for ordinary people to participate, as the majority of the listing have been filled out by institutions.
“The reason for that is because whoever’s running the book, it’s very difficult for them to deal with thousands of people rather than just one institution. However, platforms like ours have been set up to deal with thousands of investors — that’s where our strength is.”
Another big development in investment is the introduction of social and gaming elements. Israeli platform eToro lets investors “follow” other traders to see what they’re buying and selling. There’s even a feature that lets investors automatically copy the trades of people they follow.
And companies like Acuity Trading, Selerity, and iSentium are trying to harness data from platforms like Twitter to give an indication of investor “sentiment”, which in turn gives them an idea of which way to trade.
A recent study from the European Central Bank found Twitter has a “statistically and economically significant predictive value” for stock markets in the US, UK and Canada.
Challenger banks: ‘You don’t go to the banking sector for tech’
There’s plenty of competition in the US banking sector, but in Europe, and particularly the UK, the landscape is dominated by a few big players.
This new crop of lenders prioritises technology. Atom Bank, Mondo, and Starling are 3 pre-launch challenger banks in the UK that are planning to have no branch network and operate primarily through mobile phone apps.
Atom Bank CEO Mark Mullen told Business Insider in June: “Our inspiration is not coming from banks. You don’t go to the banking sector for technological excellence. We’re working with tech companies with credits in the motor industry, gaming.”
Not only are these new banks rethinking what a bank should look like, they’re also re-imaging how it should work.
Germany’s Fidor was one of the earliest to pioneer a banking model that works more like an app store than a traditional lender.
Fidor offers core services, but it also lets customers use third-party products like peer-to-peer loans or currency trading. The bank is more like a marketplace where people can shop around.
Fidor CEO Matthias Kröner told Business Insider he sees the role of a bank becoming the guardian of a customer’s identity, acting as a trusted gateway in the same way Facebook does when you use it to log into other sites around the web.
Kröner said: “A bank’s role in future will be protecting your identity. Identity will be the biggest asset.”
The future: ‘Things are barely beginning here’
Not all parts of finance are being turned upside down though. One big area that has yet to be revolutionised is insurance.
Investors and companies want that to change — an accelerator programme to help insurance startups grow is launching in London next January, backed by big names like UK car insurer Admiral and German insurer Allianz.
Route66’s Bouvier told Business Insider: “Insurance companies need to be way better at sifting through universes of structured and unstructured data. Things are barely beginning here — the network of data that’s going to be coming out of the internet of things is going to be massive.”
Insurance has plenty of room for new business models like peer-to-peer and efficiencies like automation that have hit finance over the last few years.
More broadly, we’re likely to see many of these innovations enter the mainstream. TransferWise CEO Kristo Kaarmann recently tweeted: “Hope we’ll graduate from fintech to finance. We don’t call uber cartech nor BI newstech.”
Banks and established financial firms are increasingly looking to work with fintech startups to help them keep up with the pace of change.
UBS has launched a competition to find startups to work with; Barclays runs a fintech accelerator programme; and banks like Santander, Goldman Sachs, and JPMorgan are all investing in companies in doing everything from bitcoin to peer-to-peer loans.
Anthemis’ Nauiokas told BI: “I think where you’ll see the success stories is with banks and financial institutions that recognise they can’t do it all, but instead identify the areas in technology reform where they do have an edge and partner with someone to do the rest.
“That’s going to be a model that will be very successful for some financial institutions.”
Fintech is going mainstream.
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