Read online: The Exponential Pull of Innovation Amazonisation 2.0

Part Two -- Impact on Financial Services

US$100 billion venture capital fintech investment over the last two years

Impact on Financial Services

If the flow of money is any indication, innovation in the financial sector has shifted into high gear since we wrote The Upside of Disruption. Financial services technology has existed for decades. SEI, after all, was founded in 1968, providing the bank loan industry’s first computer-based commercial credit simulators. Fintech as a concept, however, was effectively invented in just the past few years,7 with venture capital investment skyrocketing to more than US$100 billion in the last two years alone.8

Startups account for much of the activity because the inherently conservative nature of financial services makes full-fledged digital transformation relatively rare among incumbents, who are more likely to choose incremental improvements over radically different approaches. Existing firms thus encounter new faces at every turn. In many cases, these new industry participants offer fundamentally new ways of doing things. Banking is being redefined by online firms offering greater connectivity. Payments and transfers are happening across a growing array of applications. Algorithms are informing financial advice.  

Many startups address specific niches. Alternative lending platforms, for example, exploded in popularity as many banks withdrew in the wake of the most recent global financial crisis. Hoping to address a key pain point for many firms, security and compliance startups are also popular. Robo-advisors (aka robos) need no introduction at this point, but it is interesting to note how quickly many pivoted toward banking services and integration with human intermediaries. Many tools are being developed to make investment processes more efficient and effective. Some developments are clearly synergistic. Investors have only been able to act on their growing appetite for private securities because a number of technology-driven matchmakers, exchanges and marketplaces have been launched, creating a virtuous cycle.

Financial services and fintech will quickly become impossible to tell apart. The evolution of the combined industry is likely to accelerate as a growing number of infrastructure firms collectively reduce the barriers to entry for new fintech. Bridging the gap between technological innovation and industry expertise becomes much easier when firms are able to integrate external Application Program Interfaces (APIs) that handle challenging aspects of the business like regulatory compliance.

The power of platforms: bringing order to chaos.

With every segment, channel, product, service and function now fair game for reinvention, a current snapshot of the financial services ecosystem might not even be feasible. One could use representative firms to illustrate a variety of functional areas, but the resulting map would only hint at the complex multi-dimensional network of connections that is being woven. Asset management is already heavily intermediated, with multiple layers and external influencers and infomediaries. A growing tech stack and network of vendors and partners makes the ecosystem look more like a Jackson Pollock painting than a schematic. This is why platforms are so powerful. They curate connections, facilitate transactions, enable communications, provide liquidity, control transparency and ensure security. They bring order to chaos.

Technology-driven distribution platforms in asset management are nothing new. They date back to the 1990s, when Schwab launched OneSource in the U.S. and Virgin Money was founded in the United Kingdom. The institutional world lagged, but even it is increasingly dependent on data analytics and electronic interactions. Nevertheless, no single firm can begin to rival the impact Amazon has had on the retail landscape.

Many investors do not care about brands as much as they used to.

The slow pace of change may explain why many industry insiders do not view the investments industry as being particularly vulnerable to disruption. While 67% of banking executives say non-traditional firms are having a large impact on mobile payments, for example, only 8% say wealth and asset management services are feeling a major impact.9

Large distributors may view their assets as relatively sticky, but asset managers are finding it harder to compete, despite booming markets over the past decade: The percentage of mutual funds and ETFs with negative net flows rose steadily from 45% to 52% between 2015 and 2019.10 It is dismaying for many to hear, but as we pointed out in our 2018 white paper, Branding Investment Expertise in the 21st Century, many investors do not care about brands as much as they used to. They are more inclined to trust the overarching platform and focus on convenience, low price, features and reliability. A distribution platform with the features and reach of Amazon would be life-changing for many managers who have already gotten accustomed to their brand being obscured by that of their distributors.

A dominant platform has yet to emerge among incumbents or newcomers. It is theoretically possible that the landscape will remain fragmented. Asset management and wealth advisory, after all, feature some characteristics that clearly distinguish them from the buying and selling of T-shirts and scented candles. For one thing, human relationships and empathetic conversations remain extremely important despite the growing role of algorithms and automation. Furthermore, as important as trustworthiness is for a retailer like Amazon, it is much more vital for financial platforms to establish reputations for trustworthiness with their vendors, clients and the larger population. Finally, many investors also remain keenly interested in beating the market, despite the relentless rise of indexing. For any platform to be successful in financial services, it must therefore be able to accommodate non-fungible transactions.

Given these circumstances, what types of firms are best positioned to revolutionize financial services with platforms that could rival Amazon’s presence in e-commerce? We see five potential scenarios unfolding:

  1. Platforms coalesce around large banks and advisory firms. This might be the easiest scenario to envisage. Distribution resources are already there, and proprietary products aren’t much of an issue anymore. Still, banks and large brokerage organizations haven’t capitalized on their head starts as much as one might expect. Innovation does not come naturally to either group, and integrating new acquisitions has historically been—and is likely to remain—challenging. Incremental changes are to be expected, but large balance sheets notwithstanding, transformation might be a step too far for many entrenched players who will all need to fight to avoid going the way of Oldsmobile.
  2. Consultants, database firms and service providers reskin themselves, leveraging their advantageous positioning amidst vast pools of data. Given effective analytics, they have incredible power at their disposal. Independence and thought leadership give them credibility. Brand names, however, they are not. It is easy to see why they might prefer to remain in the background—effectively serving as the “Intel Inside” for their clients—protecting their institutional business, rather than entering the fray of competing for retail dollars.
  3. Existing asset management firms step in. Current industry behemoths are all building capabilities far beyond the manufacturing of investment products. BlackRock demonstrated a willingness to pivot when it rolled out Aladdin, a central operating system for portfolio and risk management systems that now powers trillions of dollars of investments. Franklin Templeton acquired AdvisorEngine, which had previously absorbed NestEgg (robo-advisor), Junxure (Customer Relationship Management) and Wealthminder (financial planning). Fidelity, already a major player in the fund supermarket space, has been spending more marketing dollars on its distribution activities than its asset management business. The primary obstacle here is the age-old conflict between proprietary product and open architecture. Firms already offering distribution, custody and fund services would seem to have the edge.
  4. New, purpose-built platforms emerge, propelled by a combination of organic growth and M&A. With so much dry powder available to private equity investors, it is not hard to imagine efforts to engineer Amazonesque platforms by joining together best-of-breed examples of various functions. While technically feasible, significant challenges would include sustaining a coherent vision and knitting together a robust culture that takes advantage of the underlying wealth of client and investor data. Brand building would—needless to say—be an expensive exercise. The capital being poured into individual fintech firms is breathtaking, sometimes topping US$1 billion. SoFi has raised US$2.5 billion. Figure has raised US$1.3 billion. Robinhood has raised US$1.2 billion. Revolut has raised more than US$800 million.
  5. Tech giants take over. Google, Apple and Amazon have all tested the waters with modest forays into the world of finance. They have met with varying degrees of success, and it’s safe to assume that further incursions are to be expected. In China, Ant Financial Services (Alibaba’s financial affiliate) already reports more than 600 million users.11 With its move from the world’s largest money market fund (for its vendors to park their cash) to a much larger array of investment strategies, Ant and Alibaba may have already created a map for migrating from online commerce to investments.

Would Amazon itself jump directly into asset management or financial advice? Possibly, but it seems more likely that the company would use its data and expertise to create a platform for other managers while charging them for shelf space. It is not difficult to imagine an ETF firm partnering with Amazon to develop highly liquid investments tailored to the needs of the vendors in its marketplaces. If successful, Amazon could move upstream, private labeling various aspects of the value chain in much the same way they have private labeled numerous other products.

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Legal Note

The Investment Manager Services division is an internal business unit of SEI Investments Company. This information is provided for education purposes only and is not intended to provide legal or investment advice. SEI does not claim responsibility for the accuracy or reliability of the data provided. Information provided by SEI Global Services, Inc.

Information provided by SEI Investments Distribution Co.; SEI Institutional Transfer Agent, Inc; SEI Private Trust Company, a federally chartered limited purpose savings association; SEI Trust Company; SEI Investments Global Fund Services; SEI Global Services, Inc.; SEI Investments—Global Fund Services Limited; SEI Investments—Depositary & Custodial Services (Ireland) Limited; and SEI Investments Global (Cayman) Limited, which are wholly owned subsidiaries of SEI Investments Company.