Why The City is FinTech Central and not the Valley, NYC or Frankfurt
London is undeniably the FinTech hotspot of the world at the moment and there are some easy reasons for it:
There is already a very high concentration of banks, other financial services institutions and the ecosystem to support them
There is easy access to capital through specialised and highly experienced venture capitalists and other investors
London attracts an extremely large and global pool of talent
The UK has taken a generally business friendly approach toward financial regulation to date and specifically towards FinTech (e.g. regulatory sandbox)
Clearly, you have to look at the priorities in London to know what will occupy the global FinTech scene in the next months.
FinTech vs. Old Finance
According to this survey, Financial Services are facing digital disruption right after the technology, media, and retail sectors.
Interestingly, the first wave of the FinTech hype has focused on a lot of the more retail-focussed applications (such as P2P lending, robo advisors, etc.). If you look at Germany, the industry seems to be focussed at least 80-90% on this, in total ignorance of other promising areas that could truly revolutionise the financial services industry.
Retail banking has been a money losing or at least very low-margin proposition for many full service banks for quite some time, as can be seen by the M&A and carve-out actions in the last years. Instead, their big cash cows remain in the areas of business banking to a degree, wealth management under some circumstances and mainly investment banking. Most bankers will also openly advocate that the current scheme of regulations is supposedly killing the retail banking sector. Consequently, the major banks are all very interested in the innovations coming out of the FinTech scene moving too fast for regulators and trying out new business models (or mostly just applying new tech to old models).
However banks are struggling in many ways to integrate such business models into their own operations. Think of a speedboat trying to dock with an oil tanker - very hard to do on open sea (unless you are a Somali pirate).
FinTechs cannot escape regulation
Many of the now consumer- and retail-facing FinTech startups have to seriously look in the mirror in the next 18-24 months and prove that their products bring real value to customers and thus are truly sustainable business models. Let’s not forget that the puppy protection will also run its course at some point and the regulators will catch up (and BaFin or the SEC might not be as hand-off as the FCA). Let’s just wait for a couple more Kreditech-type incidents and/or people losing their money. With recent events, unchecked and unregulated FinTech is even being mentioned in the same sentence as the big bad T (=terrorism finance).
With this in mind, it is hardly surprising that you can already see a shift and more and more FinTechs aiming to win the big banks as customers instead of competing in the low-margin retail sector.
And what is one of the biggest pain points in the financial services industry at the moment, big bank and FinTech alike? Regulatory Compliance.
Compliance is the biggest growth area in financial services
Most FinTechs have so far reacted by putting their head in the sand and optimistically hoping for the best. The big institutions, meanwhile, have been throwing an insane amount of people at the problem. Some examples:
More than 1200 employees tasked with various compliance functions at Hypovereinsbank (as overheard from its German Country Chairman at an event in Munich)
Deutsche Bank lists more than 1000 positions added in an area including audit, risk and compliance
An informed estimate for financial institutions is now around 10-15% of total workforce dedicated to governance, risk management and compliance. Thinking about the volume of demand becomes even more mind-boggling, when you consider that risk professionals are in high demand and truly experienced people with proven track-records are as rare as unicorns and more expensive than their weight in gold.
RegTech promises vs. reality
This is where RegTech, or Regulation Technology, comes in for the rescue. If you talk to London-based bankers and VCs, they are already hailing it as a kind of magic silver bullet and a saviour of the financial industry. But can it really fulfil these expectations?
One prominent technology analyst firm lists technologies in something called the Hype Cycle. RegTech, in the form envisioned by non-GRC experts, is rapidly rising towards the so-called “peak of inflated expectations”. However, it is worth mentioning that automation in the context of compliance controls is actually not really a new topic (just in a different way than non-experts think). But as with many concepts in the GRC arena, it has long been plagued by incomplete and ivory-tower implementations, which neglect the human factor, i.e. people’s behaviour and daily decisions which so often mean the difference between being compliant or an embarrassing press conference for the board and significant fines.
In the next instalments, I will outline why the current overblown expectations for RegTech will likely not be delivered within the next 5 years and why your job as a GRC expert is safe. Still, there is a significant short term value proposition, if the perception is adjusted to the true nature of regulatory compliance and how to address it.
Stay tuned for our next posts to learn how to do this and also why regulation is necessary in the first place and how to achieve a proper balance. We will also analyse the core FinTech compliance challenges, which all such startups should prepare for or are already facing now without realising. On a related note, Karl analyses what RegTech companies need to do to stay relevant in 2016.