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The traditional banking business is being radically transformed. Major trends, such as the revolution in financial technology, or fintech, are creating exciting investment opportunities in the financial industry.
Imagine a world in which you can arrange all your financial affairs online. You don’t go to a bank but to a Google, Apple or Amazon app store to take care of a whole range of financial matters, including your bank account, financial planning and your mortgage. Behind the financial platform might be an innovative bank or insurer, or even a tech company. State-of-the art financial technology will enable you to integrate all your data from various banks, pension statements from the government, etc. The technologies used will vary from artificial intelligence (AI), virtual reality (VR), to distributed ledger technology (blockchain). Welcome to the world of digital finance, brought to you by fintech.
To keep up with the rapid changes in their sector, such as digital payments, blockchain or robo-advice, financial institutions will need to make significant IT investments in the coming three to five years. In the not too distant future, online payment methods will become mainstream, and cash will be the exception. Fintech companies will benefit from this trend.
Apart from the technological improvements it enables, fintech will also have a major social impact, as it will open the way to 2 billion people who currently don’t manage their financial affairs.
Although it’s still mostly venture capitalists and other private equity companies that currently invest in fintech companies, fintech is definitely investible from a listed perspective, with an average market capitalization of more than USD 10 billion. One of the benefits of listed fintech is its higher liquidity, as venture capital assets tends to be locked up for seven years or longer. Moreover, listed fintech is less risky. Many start-ups don’t make it and when they do come to the stock exchange, their viability is reasonably proven.
The lower risk doesn’t have to be at the expense of return. Some listed stocks have increased multiple times in value. We do expect many fintech IPOs in the coming years, especially in software and Asia. Research by Citigroup shows that the annual spend on banking software and IT alone is ten times as large as what’s currently invested in global fintech and is expected to grow to EUR 255 billion in 2020.
Banks, insurers, asset managers and tech companies are looking to create financial platforms which enable easy client access to a whole range of financial solutions. This will prompt cooperation between large technology companies and financials. Larger tech companies have the IT capabilities and flexibility to stay on top of developments, but are often held back by the jungle of regulatory requirements. Smaller fintechs prefer cooperation as they lack a customer base.
The new EU Payment Services Directive 2 (PSD2) can give a substantial impulse to fintech. One of the consequences of this directive, which will come into force in January 2018, is that clients can allow banks to make their data available to other parties (including other banks), which can then offer them additional products or services. As banks will gain more information about their clients, the shift towards financial platforms accelerates.
Of course, this new development is accompanied by the necessary regulation. Towards mid-2018, the General Data Protection Regulation (GDPR) will come into force in the EU, creating a tremendous administrative challenge. This is where specialized regtech companies come in. Using sophisticated algorithms, they make reporting and record-keeping easier and enable compliant client onboarding.
Where does bitcoin fit in all of this? For a listed fintech fund, it’s still impossible to invest in cryptocurrencies, as they are not listed. On top of that, they are extremely volatile, often have no economic basis and lack regulatory oversight. We do see the attraction of the distributed ledger technology behind it such as blockchain or ethereum.
Cryptocurrencies may become more interesting if they are backed by a central bank. Poland is already doing this with the billon, which is traded 1:1 against the zloty by the Central Bank. If 1,000 billon is created, the Central Bank takes 1,000 zloty out of circulation. In our view, regulatory approval is essential for cryptocurrencies to become globally accepted.
Fintech is moving from the experimental, start-up phase to the mainstream. This opens up a lot of opportunities for investors. Investing in fintech is especially interesting for investors who believe in the long-term strength of fintech and who want to benefit from the investment opportunities in new fintech, insurtech, regtech and other companies that benefit from the digitization of the financial sector.