Morgan RileyThe term “fintech,” or “financial technology,” refers to new technology that aspires to enhance and automate the provision of financial services. Through the use of specialized software and algorithms on computers and smartphones, fintech enables businesses, business owners, and consumers to handle their financial operations more effectively. Education, retail banking, fundraising, and investment management are some of the various fields and industries that fall under the umbrella of fintech.
In a Nutshell
- New technology that enhances and automates financial services is referred to as fintech.
- Fintechs are used across a variety of businesses and sectors, including investment management, retail banking, fundraising, and education.
- By being more adaptable and offering faster and/or better service, fintech startups seek to compete with and unseat established financial service providers.
- Financial decisions will become more rational and less based on habit thanks to new technologies like machine learning, artificial intelligence, predictive behavioral analytics, and data driven marketing.
- Numerous aspects of finance have benefited from the use of fintechs, including roboadvisors, investment apps, payment apps, personal finance apps, P2P lending platforms, cryptocurrency apps, and insurtech.
- Depending on their area of expertise, fintech companies generate revenue through commissions, loan interest, sales of financial goods, brokerage commissions, payment for order flow, or a percentage of assets under management.
Emily RobertsUnderstanding Fintech
In general, the term “financial technology” can be applied to any innovation in the way business is done, from the invention of digital money to double entry bookkeeping. However, since the Internet revolution and the mobile/smartphone Internet revolution, financial technology has grown explosively. Fintech, which originally referred to the use of information technology applied to the back office services of banks or commercial enterprises, now describes a wide variety of technological interventions in personal and commercial finance.
Fintech now describes a range of financial activities, such as transferring money, depositing a check with your smartphone, bypassing a bank branch to apply for credit, getting money for a business startup or managing investments, usually without the help of a person. According to EY’s 2017 Fintech Adoption Index, one third of consumers use at least two or more fintech services, and those consumers are also increasingly aware that fintech is part of their daily lives.
Fintech in Practice
The most talked about (and funded) fintech startups share the same characteristic: they are designed to threaten, challenge and ultimately usurp traditional entrenched financial service providers by being more agile, catering to an underserved segment of the population or providing faster and/or better service.
For example, Affirm aims to exclude credit card companies from the online shopping process by offering consumers a way to obtain immediate short term loans for their purchases. While interest rates may be high, Affirm aims to offer consumers with little or no credit a way to obtain credit and also build their credit history.
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Similarly, Better Mortgage aims to streamline the mortgage process (and bypass traditional mortgage brokers) with a digital only offering that can reward users with a verified pre approval letter within 24 hours of application. GreenSky aims to connect borrowers with banks by helping consumers avoid traditional lenders and save on interest by offering interest free promotional periods.
Tala offers microloans to consumers in developing countries who have no or poor credit by thoroughly researching their smartphone transaction history and other seemingly unrelated data, such as what mobile games they play. Tala aims to offer these consumers better options than local banks, unregulated lenders and other microfinance institutions.
In short, if you’ve ever wondered why some aspect of your financial life was so off putting (such as applying for a mortgage with a traditional lender) or had the feeling that it wasn’t quite a good fit, fintechs likely have (or are trying to have) a solution for you. For example, fintechs are trying to answer questions like, “Why is it so mysterious what makes up my FICO score and how is it used to judge my creditworthiness?”
Alex GoodmanThat’s why loan originator Upstart wants to make FICO (as well as other lenders both traditional and fintech) obsolete by using different data sets to determine creditworthiness. They include work history, education and whether a prospective borrower knows their credit score to decide whether to underwrite and how to price loans.
Similar treatment is given to financial services ranging from bridge loans for those looking to move house (LendingHome) to a digital investment platform that takes into account the fact that women live longer and have unique savings needs, tend to earn less than men and have different salary curves that may leave less time for savings to grow (Ellevest).
Fintech: Expanding Horizons
Until now, financial services institutions offered a variety of services under one umbrella. The scope of these services covered a wide range from traditional banking activities to mortgage and commercial services. In their most basic form, fintechs break these services down into individual offerings. Combining streamlined offerings with technology allows fintech companies to become more efficient and reduce the costs associated with each transaction.
If one word can describe the way many fintech innovations have affected commerce, banking, financial advice and traditional products, it is “disruption,” as when financial products and services that were once the realm of branches, salespeople and desktops move to mobile devices or simply democratize away from large, entrenched institutions.
For example, stock trading mobile app Robinhood does not charge transaction fees, and peer to peer lending sites such as Prosper Marketplace, Lending Club and OnDeck promise to lower rates by opening up competition for loans to market forces. Business loan providers such as Kabbage, Lendio, Accion and Funding Circle (among others) offer startups and established companies easy and fast platforms to raise working capital. Oscar, an online insurance startup, received $165 million in funding in March 2018. These significant funding rounds are not unusual and occur globally for fintech startups.
However, entrenched traditional banks have been paying attention and investing heavily to become more like the companies that seek to disrupt them. For example, investment bank Goldman Sachs launched consumer lending platform Marcus in 2016 and recently expanded its operations to the UK.
That said, many tech savvy industry observers caution that keeping pace with fintech inspired innovations requires more than increased technology spending. Rather, competing with lighter footed startups requires a significant shift in thinking, processes, decision making and even overall corporate structure.
Fintech and New Technologies
New technologies such as machine learning/artificial intelligence (AI), predictive behavioral analytics and data driven marketing will take the guesswork and habits out of financial decisions. Apps “that learn” will not only learn users’ habits, often hidden from themselves, but will engage them in learning games to improve their automatic and unconscious spending and saving decisions. Fintechs are also adapting to automated customer service technology, using chatbots and artificial intelligence interfaces to help customers with basic tasks and reduce staffing costs. Financial technology is also being leveraged to fight fraud by leveraging payment history information to flag transactions that fall outside the norm.
Fintech Panorama
Since the mid 2010s, financial technology has exploded, both with startups receiving billions in venture funding (some of which have become unicorns), and with traditional financial firms acquiring startups or creating their own financial technology offerings.
North America continues to produce the majority of financial technology startups, with Asia a relatively close second, followed by Europe. Some of the most active areas of fintech innovation include or revolve around the following areas (among others):
- Cryptocurrencies (Bitcoin, Ethereum, etc.), digital tokens (e.g., NFT) and digital cash. They are often based on blockchain technology, which is a distributed ledger technology (DLT) that keeps records on a network of computers but has no central ledger. Blockchain also enables so called smart contracts, which use code to automatically execute contracts between parties such as buyers and sellers.
- Open banking, which is a concept that proposes that all people have access to banking data to create applications that create a connected network of financial institutions and third party providers. One example is the all in one money management tool Mint.
- Insurtech, which seeks to use technology to simplify and streamline the insurance industry.
- Regtech, which seeks to help financial services companies meet industry compliance standards, especially those covering anti-money laundering and “Know Your Customer” protocols that fight fraud.
- Roboadvisors, such as Betterment, that use algorithms to automate investment advice to reduce its cost and increase accessibility.
- Unbanked/underbanked services that seek to serve disadvantaged or low income people who are overlooked or underserved by traditional banks or mainstream financial services firms. These applications foster financial inclusion.
- Cybersecurity. Given the proliferation of cybercrime and decentralized data storage, cybersecurity and fintechs are intertwined.
Fintech Users
There are four broad categories of users for financial technology:
1) B2B for banks
2) Business customers
3) B2C for small businesses
4) General consumers
The trends towards mobile banking, increased information, data, more accurate analytics and decentralized access will create opportunities for all four groups to interact in ways that have been unprecedented until now.
On the consumer side, as with most technology, the younger you are, the more likely you are to know and be able to accurately describe what financial technology is. The fact is that consumer facing financial technology is aimed primarily at the millennial generation, given the sheer size and growing income (and inheritance) potential of this much talked about segment.
Some financial technology observers believe this focus on millennials has more to do with the size of that market than with the ability and interest of Generation X and baby boomers in using financial technology. Rather, financial technology tends to offer little to older consumers because it does not address their problems.
On the business side, prior to the advent and adoption of fintech, a business owner or startup would have gone to a bank for funding or seed capital. If they intended to accept credit card payments, they had to establish a relationship with a credit provider and even install infrastructure, such as a grounded card reader. Now, with mobile technology, those hurdles are a thing of the past.
Regulation and Fintech
Financial services are among the most regulated sectors in the world. Not surprisingly, regulation has become a major concern for governments as financial technology companies take off.
As technology becomes integrated into financial services processes, the regulatory issues for these companies multiply. In some cases, the problems are a function of the technology. In others, they are a reflection of the technology industry’s eagerness to disrupt finance.
For example, process automation and data digitization make financial technology systems vulnerable to hacker attacks. Recent cases of hacks of credit card companies and banks are illustrations of the ease with which bad actors can access systems and cause irreparable damage. The most important issues for consumers in these cases will concern liability for such attacks, as well as the misuse of important personal information and financial data.
There have also been cases where the collision of a tech culture that believes in the “move fast and break things” philosophy with the conservative, risk averse world of finance has produced undesirable results. San Francisco based insurance firm Zenefits, valued at more than $1 billion in private markets, violated California insurance laws by allowing unlicensed brokers to sell its products and underwrite insurance policies. The SEC fined the firm $980,000 and they had to pay $7 million to the California Department of Insurance.
Regulation is also an issue in the emerging world of cryptocurrencies. Initial coin offerings (ICOs) are a new form of fundraising that allow startups to raise capital directly from lay investors. In most countries, they are unregulated and have become breeding grounds for scams and fraud. The regulatory uncertainty of ICOs has also allowed entrepreneurs to pass security tokens disguised as utility tokens through the SEC to avoid fees and compliance costs.
They have created sandboxes to assess the implications of technology on the industry. The passage of the General Data Protection Regulation (GDPR), a framework for the collection and use of personal data, in the EU is another attempt to limit the amount of personal data available to banks. Several countries where ICOs are popular, such as Japan and South Korea, have also taken the lead in developing regulations for such offerings to protect investors.
Due to the diversity of fintech offerings and the disparity of sectors they affect, it is difficult to formulate a single, comprehensive approach to these issues. For the most part, governments have used existing regulations and, in some cases, adapted them to regulate fintechs.
What are the Examples of Fintech?
Fintech has been applied to many areas of finance. Here are some examples.
- Roboadvisors are apps or online platforms that invest your money optimally and automatically, often for little money, and are accessible to everyday individuals.
- Investing apps like Robinhood make it easy to buy and sell stocks, ETFs and cryptocurrencies from your mobile device, often with little or no commission.
- Payment apps like Paypal, Venmo, Block (Square), Zelle and CashApp make it easy to pay individuals or businesses online and instantly.
- Personal finance apps like Mint, YNAB and Quicken SimpliFi let you see all your finances in one place, set budgets, pay bills, etc.
- P2P lending platforms such as Prosper, Lending Club and Upstart allow individuals and small business owners to receive loans from a range of people who bring microloans directly to them.
- Cryptocurrency apps, including wallets, exchanges and payment apps, allow you to hold and transact with cryptocurrencies and digital tokens such as Bitcoin and NFT.
- InsurTech is the application of technology specifically to the insurance arena. An example would be the use of devices that monitor your driving in order to adjust auto insurance rates.
Wrap Up
As a result of providing customers and businesses with quicker, more effective, and more accessible services, fintechs have changed the financial services sector. By being more responsive and providing superior service, fintech firms have put pressure on established financial services companies. The future of fintech will continue to be shaped by new technologies like machine learning, artificial intelligence, predictive behavioral analytics, and data driven marketing. Fintech has been used in a variety of financial sectors, and depending on their area of expertise, fintech companies generate revenue in various ways.
FAQs
The term “fintech” describes modern technology that strives to enhance and automate the provision of financial services. Through the use of specialized software and algorithms on computers and smartphones, it enables organizations, company owners, and consumers better manage their financial operations, procedures, and lives.
Fintech encompasses a variety of fields and industries, including investment management, retail banking, fundraising, and education, to mention a few. It also covers the creation and application of cryptocurrencies like Bitcoin.
No. While banks and startups have created useful fintech applications around basic banking (checking and savings accounts, bank transfers, credit/debit cards, loans), many other fintech areas that have more to do with personal finance, investment or payments (among others) have grown in popularity.
By being more nimble, catering to an underserved demographic sector, offering faster and/or better service, or being more agile overall, fintech startups are intended to threaten, challenge, and ultimately replace entrenched traditional financial service providers. They provide solutions to issues that have not been addressed by conventional financial institutions.
Roboadvisors, investing apps, payment apps, personal finance apps, P2P lending platforms, cryptocurrency applications, and insurtechs are just a few of the financial domains where fintechs have been used.
Depending on their area of expertise, fintechs generate revenue in many ways. Fintechs in banking can make money via charging commissions, charging interest on loans, and selling financial goods. Investment applications may charge a proportion of the assets under management, pay for order flow (PFOF), brokerage commissions, or both. (AUM). Applications for payments may charge fees for features like early withdrawals or credit card use, as well as interest on cash sums.
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