Understanding how technology is transforming financial institutions
Take a glance back in five years, when ‘share-economy’ businesses(i.e Uber, Airbnb) haven’t existed yet when multinational companies advertise themselves on newspaper, when technology has not been well developed yet.
Financial institutions only do three things: lending, advising and investing. Till now, apparently they are still providing the same service but in fact, the entire financial industry has changed drastically and big challenges await.
1. Commercial Banks
5 years ago, the top five Canadian banks have acquired over 93% of our private savings and there is a decreasing trend over these years after the advent of online banks.
Online banks have a relatively smaller size than traditional banks, are also called ‘Challenger Banks’ by the Europeans. Their competitive advantage is to utilize technology, application programming interfaces (APIs) to access financial information efficiently and transparently which allows personification for individuals/small-medium enterprises(personalized credit reports, interest management).
Wealthsimple offers an industry-leading permanent savings interest of 2% where major banks offer an interest between 1.05% to 1.3%; Mint offers personalized budget tracker/plan system for free where the client would have to reserve several appointments to line up their budgeting plans; Simplii offers unlimited free interac transfer permanently where people would have to pay a fixed amount of fees every time or simply anticipate 1–2 days to get through.
Traditional commercial banks are threatened by the limit of service they can offer, therefore a lot of them have started a separate branch of an open bank which targets generalization Z.
Scotiabank has launched Tangerine and CIBC has launched simplii, in order to expand its market share as to prepared themselves to enter the competition of open banks. The trend of open banking is inevitable, it is anticipated the commercial banks are going to be disrupted and decentralized in the long-term.
From my perspective, given the fact that wealth disparity is getting worse within the decreasing low birth rate in developed countries. In addition to that fact that older people are most unlikely to move their funds from bank to bank, I am curious what would happen where would the baby-boomers’ and the Generalization X funds proceed after decades.
2. Asset Management
It is an interesting one because the operation of asset management cannot really be changed/helped by technology, yet the industry is red-flagged with the increased internal rate of return and investing knowledge is getting more accessible.
Asset management firms aim to assist assets owner to grow their portfolio by making investments. It could be any type of assets, such as stocks, bonds, real estate, commodities, etc, thus the introduction of online banking and robo-advisory do the identical with less cost. Therefore, clients started to ask for greater internal rate of growth (IRR) within their investment, as result, asset managers are facing a major difficult scenario where they would have to outperform the index and robot-advisory returns compared to the nominal interest rate before.
On the other hand, speaking in terms of education, the truth that our workforce has been more educated than ever before. Education is truly accessible, resulted in more people would be able to manage their assets by themselves instead of relying on asset managers. Majority of millennials and generation Z manage their properties by themselves and have had basic knowledge of personal financing. The trend seems endless and eventually, asset managers are going to receive less and less small-midsize clients.
The major challenge of asset management is the unavoidable increase in profit demand as well as the shrinking size of manageable funds. In order to mitigate those incoming challenge, asset managers need to establish more trust by developing tighter customer relationship and be more transparent/flexible within financial decisions made.
3. Investment Banks/Private Equity
These groups tend to have the greatest human resources and the way they operate shouldn’t have changed too much even under technology. It is interesting that technology didn’t change their job responsibilities but it somehow affected how they carry out jobs — evaluation.
Investment banks analysts tend to evaluate businesses with relative and intrinsic models, in addition to external forces/regulations. Across retails, technology, natural resources, financial institutions, healthcare, real estate, etc different kinds of industry, they do have their own characteristics (industry as a whole).
Recently, technology has disrupted all industries and companies started to vertical integrate across the industry in order to maintain a competitive advantage. As a result conglomerate businesses began to rise and multinational companies are getting more unique and unique.
From an investment bankers/equity researcher point of view, it makes it more difficult to identify trading multiples and comparable companies to look into. A lot of corporates (especially for retail/entertainment/healthcare) have invested gigantic funds into R&D and P/E ratios across the Fortune 500 have increased over the years. It drives market bubbles and stagnation once excess attention was put into reevaluated technology stocks.
The problem with technology is businesses are getting more complex to assess, investors should pay more attention to capital expenditure and R&D (EBIT multiple, Cap-Ex trend).
Last but not least, cryptocurrency is ubiquitous and is something we should not ignore. I believe most of us have known of the bitcoin bubble burst, but it doesn’t mean digital assets, blockchain payments are useless. Does it?
The prospect of this digital asset is phenomenal because of its convenience and generalizability. It breaks the centralized system of commercial banks as I mentioned and enables us to deliver payments towards the receiver without giving them to any middleman. It saves time, decreases default risk, and ultimately cost less money as well.
Bitcoin payment was initially criticized as slow to get through when the mining system in 2018 allows 4 transactions per second (TPS), compared to VISA’s payment which was 1667 TPS. Afterward, different cryptocurrencies have invented with its own purposes, in 2019 Bitcoin cash can generate over 65 TPS while Ripple claimed they can process over 1000 TPS.
5 days ago, Home Depot, Nordstrom, Whole Foods have officially announced they would accept Bitcoin, Ethereum and Bitcoin Cash as payment methods. Digital assets are getting more popular and most importantly they are backed by the advancing digital technology.
In my opinion, cryptocurrency is never a bear market because the trend of blockchain technology has been introduced into land distribution by governors, luxurious jewelry by fashion brands, transaction channels by the general public. The value of digital assets is continued to be a concern but the digital technology would continue to create a bull market within these two decades.
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