FinTech and the Financial Industry

FINTECH AND THE FINANCIAL INDUSTRY

FinTech and the Financial Industry

Introduction

Currently, it is impossible to think of a world without the internet and mobile devices. These have become core elements in our lifestyle and they have brought with them a high degree of disruption in virtually every area of businesses, with no exception to the financial services sector. This digital revolution is transforming how customers access financial services and products. The financial sector might have experienced some degree of change in the past. However, this constant penetration of technology-driven applications in almost all segments of financial services is something new. The phenomenon that has been accelerating the pace of change and reshaping the financial industry is known as FinTech.

What is FinTech?

FinTech refers to the usage of technology across all financial services functions. For example, replacing paper-based processes with applications and software. In the past, FinTech was mostly used in the back-office functions via software that was aimed at assisting bank personnel to handle accounts, manage customer databases, and execute transactions. However, FinTech has now transformed how many banks currently operate. Technology is no longer relegated to the gloomy corners of back-offices, it has taken center stage. FinTech is mainly about innovation, transformation, and disruption, and it will without doubt impact and shape how financial institutions across the globe operate. FinTech is the driver to the disruption that is taking place in financial services, and it is reshaping the way consumers and companies are engaging by changing how, when, and where financial services and products are provided (Manoj, John, Haskell, Steve, & Dean, 2016). Thanks to FinTech every digital transaction is possible at customers fingertips be it foreign currency exchange, online shopping, money transfers, or stock investments. FinTech places technology at the heart of financial services, which fundamentally changes how companies interact with their customers. The proliferation of FinTech has resulted in a number of positive impacts towards the society that include the reduction in the prices paid by customers, increased competition, and wider access to financial services amongst the traditionally underserved.

FinTech is at the intersection of financial services and technology sectors where start-ups that are technology-focused and new market entrants innovate on the services and products that are currently being offered by the traditional financial services industry (Lu, 2017). For this reason, FinTech has been gaining momentum and it has been causing disruption to the traditional value chain of financial services. The financial services sector is continuously being fueled by FinTech. It is no longer a secret that customers are doing more business with these non-traditional players and this is causing uncertainty to the financial industry. Current incumbents have been forced to react to this and they are trying to work with FinTech in order to leverage on the ecosystem that has been created. This means they need to turn the innovation into an advantage and eliminate their concerns around their business being at risk. It should be understood that the accelerating pace of technological change is the most creative force, and it is also the most destructive force in the financial services ecosystems today.

The main drivers for FinTech have been mobility and the internet. With the increasing penetration of smartphones, customers have an easier way to interact with their respective banks and get real-time views of their bank accounts. As the mobile applications grew in sophistication so did the needs and demands of the customer for more intuitive banking services. Digital transformation in the banking industry that is coupled with mobility has managed to transform the nature of banking. Customers do not have to experience the long queues and waiting times in the banking halls in order to deposit money, request for checkbooks, or conduct trades. They can be able to perform all these functions straight from their mobile phones.

Current Status of the FinTech Industry

The FinTech industry growth has experienced exponential growth within a short period of time. In just one year between 2013 and 2014, the FinTech industry grew by approximately 400 percent, this is from $3billion to more than $12 billion. The industry has also seen a total global investment from 2010 to 2015 of $49.7 billion, with only 25 percent representing $12.7 billion being invested in the first and second quarters of 2015. Looking at the financial year 2017 the first quarter saw the industry receiving 1.8 billion globally. This demonstrates that the future of FinTech is bright and it is growing with each passing year. According to the World Bank Group, close to 42 percent of the global population does not have access to any formal financial systems (Oshodin, Molla, Karanasios, & Ong, 2017). This fact presents a huge opportunity for the FinTech industry to tackle since it cannot be addressed by the financial institutions.

It is worth noting that currently, the largest area of FinTech investment has been in payment processing and lending solutions. However, in the recent past, emerging technologies like P2P blockchain that have been popularized by Bitcoin and cloud-based technologies that increase the speed and security of financial networks have been strongly supported. Financial institutions are embracing the disruptive nature of FinTech and they are forging partnerships in an effort to sharpen their operational efficiency and respond to their ever-changing and increasing customer demands for innovative services. It is for this reason that funding for FinTech is moving from a venture capitalist dominated field to a more mainstream investment. According to Manoj, John, Haskell, Steve, and Dean (2017), funding for FinTech startups has increased at a Compound Annual Growth Rate (CAGR) of 41 percent in the last four years, and over $40 billion has been in cumulative investments. It is apparent that cutting-edge FinTech companies and financial innovation are changing the competitive landscape and redrawing the lines for the financial services industry.

The US offers the most attractive ecosystem for FinTech startups mainly because it is where the largest percentage of capital comes from. There are existing giants who continue invest millions each year towards FinTech innovation and this makes the US a prime location for most innovations in the financial sector. However, this does not mean the FinTech is only found in the US, it is everywhere. The technology can be found in all payment methods and lending that is taking place globally. As we will see in the upcoming section there are many kinds of FinTech technologies and they have their roots from different parts of the world.

Examples

Chatbots for customer service

Chatbots are considered to be bits of software that make use of natural language processing and machine learning in order for them to continuously learn from human interactions. This tool is becoming highly popular for banks in order for them to streamline their customer-facing interactions like directing customers or handling queries. For example, Erica the Bank of America's chatbot is able to offer investment advice. Leading banks in Japan have also been rolling out chatbots that will assist their customers to navigate and find relevant information on the bank's website.

AI and machine learning

The main goal of the anti-money laundering department is to identify fraudulent transactions. For many financial institutions, this will involve a combination of people and software. The security software will generate an alert informing the employees of a potentially fraudulent transaction. Then the employee will investigate in order to determine if the transaction is a real threat or false positive. This is a time-consuming task and making use of FinTech will allow the financial institutions to adopt data aggregation platforms, process automation, and machine learning. Machine learning algorithms can use historical records to identify patterns and predict the possibility of fraud before it occurs, which reduces the manual effort by almost half (Lu, 2018).

Digital Banking

Banking is shifting from being a branch-specific activity to an activity that can be conducted from anywhere by using digital platforms like mobile and online banking. This decreases the need for having numerous brick-and-mortar bank offices. With an increasing adoption of online banking, many banks are forced to reduce their number and branch sizes. Online banking allows customers to access and transact from their accounts from their smartphones from anywhere. This ensures that customers do not have to visit a bank physically.

Blockchain

Blockchain makes use of the distributed ledger system that leverages stringent controls allowing for smart contracts and auditable data. The amount of time taken to transfer money and the costs charged to the customer make this technology favorable. Using inherent trust, blockchain offers the perfect trading platform for securities exchange. This is done by ensuring that there is transparency, which minimizes human errors, risk, and transactional fees.

Mobile money

In sub-Saharan Africa, mobile money has transformed the financial landscape. Mobile money makes use of P2P mobile payments, which make financial services more accessible. Mobile money has also brought millions of unbanked Africans closer to some formal economy.

Disruption of Financial Services

Technology will fundamentally alter the way we live, work, and relate to each other. This technological revolution will completely disrupt many industries and their business models. With every industrial revolution, there has been a significant impact on the demand and supply relationships. The revolution in the financial services has been termed as the fourth industrial revolution because it is completely different. It will have an effect on speed, scope, and systems altogether. FinTech is evolving at a much faster pace than could have been thought or seen in the past. The technology is also disrupting almost every industry. The changes are resulting in the transformation of entire systems of management, production, and governance. The technologies that come with the fourth industrial revolution are having a major impact on the businesses, but the disruption has been hitting hard on the banks and financial institutions.

When one starts to understand that a bank’s true business is the management of information exchange, then one can see why banks are being largely disrupted. When there are new forms, behaviors, and regulations on how companies and people exchange, consume, and trade information, this business segment becomes vulnerable to large disruptions of its business model (Shim & Shin, 2016). FinTech is bringing significant changes in the ways that people and companies relate to each other. There are disruptions taking place on both the supply side and the demand. On the demand side there is growing transparency, consumer engagement, and new consumer behavior patterns that are emerging, which are forcing companies to change how they market, design, and deliver products to the consumers. The supply side is seeing a majority of industries seeing the introduction of new technologies that allow the industries to create an entirely new way of serving their existing needs and change the current industry value chains.

In the areas that traditional banks are failing FinTech is succeeding. Clients are becoming more used to the digital experience that is offered by companies like Apple, Google, Amazon, and Facebook that they expect the same level of experience from their financial services providers. FinTech has identified this need and it has managed to ride the waves of disruption with solutions that better address the needs of the customers by offering enhanced convenience, accessibility, and products tailored to the consumers. The main priority has been customer centricity, which has been lacking in the financial services industry. Banks have been unable to meet the needs of digital native clientele, and this has created an entry point for FinTech. An increased focus on the customer, which has been lacking in the traditional banks and financial institutions is the main focus of FinTech, and by using this route the startups have managed to disrupt and penetrate to the consumer levels (Brandl & Hornuf, 2017). Normally it is not easy to receive financial services, but FinTech has made it easier for everyone to adopt modern FinTech solutions. The only requirements for using these services is downloading an app and entering an email address. This is way much easier when compared to the requirements placed by banks for opening an account. The bureaucratic nature of financial institutions has limited their level of innovation and this results in higher disruptions taking place (Gomber, Kauffman, Parker, & Weber, 2018). FinTech is mostly small companies that have a footing in technology and they are innovative. This makes it easier for them to adopt new technologies and change their mode of operation faster than any financial institution.