Capital Markets: Past, Present, and Future
Why do we still mostly rely on decades-old infrastructure in the financial services sector, despite the technological leaps that have significantly improved other sectors?
This is the first in a series of articles that will explore the intersection of emerging technologies and capital markets, and what the financial services industry 4.0 will look like. The purpose of these articles is to first, put into perspective the current conditions in the industry affecting technological development and adoption, and second, to demonstrate how a convergence of emerging technologies will change the landscape for all stakeholders (i.e. the investment banks, the investments brokers and the investors) and society as a whole.
As I explore these topics, I am looking forward to receiving feedback and comments from all walks of life.. from those curious about investing, to Technologists, to Investment Professionals!
From Pigeons to Fiber Optics
The global financial markets have come a long way from starting by the exchange of information via horse riders and pigeons, followed by telegrams and ticker tapes, to communicating now between London and New York in about 60 milliseconds through fiber optic cables and microwave transmission links (you may have read about these in Flash Boys). Each wave of new technology introduced capabilities and new directions for innovation. During my career in Investment Banking, and more specifically the structured investments* space, I have seen first-hand how the appropriate use of technology can have transformational effects on an organization, its people, and the bottom line. The right technologies unlock enormous potential and empower professional relationships in scalable and consistent ways. These advancements, however, have been applied asymmetrically, in both time and function, to capital markets, which yields subpar results. This is a key consideration when we look backward and forward at the evolution of financial services.
Financial services firms are required to monitor their operations to a very high standard to protect clients, counterparties, and the markets. Operations and compliance are typically major cost centers, which weigh substantially on profitability and revenue. Larger businesses can benefit from economies of scale, but still must focus their efforts on high revenue-generating market segments or transaction types. Furthermore, the manual recurring processes, paper documentation, and the many channels of communication with clients and colleagues lead to errors, delays, and unnecessary risks that require costly oversight by the business. It is a numbers game: the top two US Wealth Management firms have 36,000 relationship managers advising on more than $3 trillion of client assets. You don’t need more than a few bad apples to damage a firm or a whole industry.
As seen from the multiple high-profile cases of misconduct over the past ten years, the consequences of oversight failures and product mis-selling can be quite severe. In combination with other misconduct, such failures result in large fines, reputational damage, and monetary losses. Reuters reports this amount will top $400 billion by 2020 since the beginning of the financial crisis.
Big Bets and Changing Tides
To address the aforementioned issues, banks and other capital markets participants have been investing in automation and Fintech (Financial Technology) over the past few years. According to KPMG, investment into Fintech through 857 deals during the first six months of 2018 raised $57.9 billion. This amount already exceeds last year’s total annual investments. While the results have led to cost reduction, development of new revenue streams, and balance sheet optimization, there is still an immense distance to cover. Historically, where capital flows, things start to happen — and the growing flow of capital and skills into Fintech over the past few years is indisputable.
But if the historical evolution of the financial services sector has taught us one thing about what to expect going forward, it is that the deployment of fintech will be unbalanced, and that first movers will realise tremendous benefits over the slower adopters.
To quote a CTO of one of the largest global investment banks at a recent discussion at the Barclays Techstars Accelerator in New York City, “Businesses get the technology they deserve.” Successful innovation through Fintech is not only an issue of how much money a company can invest in new technology or how quickly the legacy systems can be decommissioned, but also an issue of solving cultural misalignments inside firms. Firms’ strategies (including internal politics) must allow the technical experts to be close to the business and effect real change. Only then do solutions to long-standing problems emerge, and a firm can foster an environment that allows for transformational innovation capturing new business opportunities.
Next article in the series starts to explore the challenges and recount the complexities that make adaptation to new technologies difficult and time-consuming for banks and other financial institutions. To give an illustration of the tremendous complexity and risks that need to be managed on a day-to-day basis, I focus on a specific business from my professional experience in two top-tier global investment banks.
Over the next 10 weeks, I will be covering the current challenges, the applicable technologies, and how some Fintech companies are harnessing these tides of change. I welcome comments and feedback from others’ professional experience in the industry as I explore these topics.
* Structured Investments are investment solutions of fixed maturity, expressing an exposure to a bond and a derivative, packaged in a singlesecuritised product. Typically, they are traded through notes or certificates.
** The author, Dr Hariton Korizis, is co-founder of Velocity Innovator ResonanceX along with Guillame Chatain. The company is participating in the UK Investment Association’s Velocity Accelerator in London, and is regulated by the UK’s Financial Conduct Authority.