FinTech is more friend than foe to banks
Banks and FinTech firms must cooperate to confront the challenge from big tech companies.
Anthony Woolley, Head of Group Innovation for Societe Generale in the UK
There has already been more than $1bn invested in the UK FinTech sector in 2017 and the year is not over yet. But where is the money actually going?
There is a received wisdom that innovative financial technology companies are disrupting and then disintermediating large incumbent financial institutions. But are they? Is the story that simple?
Certainly, retail banking has seen a high level of disruption over the last decade. Branches have closed and today we are more likely to have a closer relationship with the financial applications on our smartphones than we do with the staff at our own banks. And yet most of us still hold our current account, savings and mortgage with the same institutions we always have.
Mobile-only challenger banks are making some inroads but, while innovative, these young companies are relying on products that have extremely low margin and many are not yet cashflow positive. In essence, disruption is happening, but the large incumbent retail banks continue to hold a strong position.
So, what about the large global banks and where is wholesale banking going?
Financial services was famously one of the first industries to go through a major digital transformation. It started in the 1980s and revolutionised the financial markets. Vast resources were poured into advancing technology on the trading floors of the world. The front-office was transformed, with traders given the tools to book trades in nanoseconds.
The back-office meanwhile was not the priority and over time this disparity of investment resulted in dislocation with the front-office. Ever more complex products were being booked by the trading floor requiring more sophisticated back-office operations to settle and clear them. The solution for years was to bolt systems onto ageing core banking infrastructure. The end result? Back-office spaghetti systems that weigh on the cost base of the banks and are very difficult to replace.
In the last few years new regulatory reporting requirements have put even more strain on these legacy systems. So now the technology focus is on untangling the spaghetti – moving to new, standard systems interfaces called APIs (Application Programming Interfaces) that can connect to leading edge systems hosted by large cloud providers. To mix metaphors, the spaghetti is being turned into bricks of Lego.
This is where the FinTechs come in. The banks want to plug the innovative solutions generated by the dynamic, creative ecosystem of Shoreditch, London into their APIs; the emerging FinTechs meanwhile have realised that high barriers to entry and complex regulation make it tough to go it alone. So, a new collaboration is developing to drive forward the next era of digital transformation – not only benefitting banks, but allowing FinTech developers to plug their technology into real-world problems.
By embracing FinTechs, banks are also protecting themselves from what many believe will be the real threat – ‘big tech’. So far, Silicon Valley has avoided aggressively going after the banking market given its regulatory pressures and, for now, their priorities lie elsewhere. That situation will not last forever. Once they start being widely regulated for their indiscriminate use of our data (watch this space), the tech giants may as well take on the regulatory overheads of financial services – without the spaghetti to unravel.
These are truly transformational times. A second technology revolution is underway and the next 10 years will see a shakeout for banking and FinTech alike. Both camps therefore need to give themselves as big a head start as possible. The long-term winners will be those who recognise the urgent need to work together today.