A moment of ‘weakness’ turned into an opportunity
Financial technology startups can undoubtedly be credited with accelerating the pace of innovation adoption in the financial services industry, and wealth management, in particular. As fairly noted by Reuters, companies like Betterment and Wealthfront have made robo-advisors, which provide automated investment advice to clients through web-based platforms, popular investing options, with which traditional brokerages rushed to compete, appreciating the opportunity to serve clients at lower costs enabled by technology.
To put things into perspective – fees charged by well-known players like mentioned earlier Betterment, Wealthfront, Motif, and Folio, among others, range between 15 to 35 basis points of AUM, while traditional wealth management firms and financial advisers charge 1% of AUM or higher. The minimum investment requirements for getting into the game have played a significant role in the rapid expansion of the competition. Technology startups allowed more people, who otherwise may not be able to invest with confidence or meet account minimums, to enter the market in a passive fashion, professionals emphasize.
Another major product differentiation that we have noted before is auto-rebalancing of the portfolio. Failure to re-evaluate a three-year-old investment in mutual funds and reallocation based on the latest market conditions may cause one a loss of an aggregate of 1.5%-2% in the long run. Not bothering to recalibrate may end up in losing a 2% of additional earnings that might have been prevented with the rebalancing of the portfolio. With robo-advising, auto rebalancing is taking care of that potential loss.
Having to adjust to emerging business models and technological advancements, traditional players initiated strategic moves to learn as much and as fast as they can to pick up the pace of innovation adoption in the industry.
Financial institutions have learned their lesson
Today, it would certainly be an overstatement to announce a power sway in wealth management from institutional players to solutions offered by financial technology startups. And there are at least three important points to consider on the matter:
1. Sheer economics
First, there always has been and is an enormous gap between AUM for financial institutions and the same for startups, with institutions having accumulated significant resources (+data) in sheer numbers. For a better perspective, BofA, Morgan Stanley Wealth and JP Morgan altogether have $2.8 trillion AUM (that's just three financial institutions), while some of the most successful FinTech alternatives to institutional divisions are nowhere close in terms of pure economics – Betterment and Wealthfront, for example, together have ‘only’ $8.8 billion AUM. Even if solutions offered by startups are yet superior technologically, that gap is rapidly narrowing, if not gone.
2. Embracing partnerships and in-house innovation
Second, in the past year or so, institutions have applied the lessons they learned to reboot the competition. Some of the most powerful financial institutions stepped up their game in the segment.
Charles Schwab was one of the most interesting examples of a large institution that faced its emerging competition fiercely rather than succumbing to aggressive startups. As explained by Fast Company, in June 2014, rather than leaving the robo-adviser idea to startups and hoping that it didn’t prove too disruptive, Schwab decided to face it head on with an offering of its own. The service it created, Schwab Intelligent Portfolios, debuted the following March. While other robo-adviser services carry low fees, Schwab went a step ahead by not charging a fee at all for the service itself – it makes money from the fees investors pay for individual ETFs in their portfolios, and all portfolios include some cash managed by its Schwab Bank.
Bank of America Corp.’s Merrill Edge discount brokerage unit is another of many vivid examples of a financial institution jumping into the fast-growing robo advisory business. The bank outlined plans for Merrill Edge Guided Investing, a new service meant to combine Merrill Edge’s online brokerage platform with Merrill Lynch’s human advisers’ wealth-management expertise. In starting its own robo service, Merrill entered a market pioneered by startups as a response to investors’ demand for low-cost advice in an era of low expected returns.
Other notable examples from the years 2016-17 include:
- BBVA & FutureAdvisor
- Wells Fargo & SigFig
- Capital One
- Deutsche Bank
- Morgan Stanley
- U.S. Bancorp & FutureAdvisor
- Merrill Lynch
- China Merchants Bank (CMB)
- Goldman Sachs
- RBC & FutureAdvisor
- BNP Paribas
- Standard Chartered
The list is expected to grow as institutions pick up the pace of offering competitive solutions for previously unattended segments – whether through partnerships, or in-house innovation. As a result, even the most successful automated investment apps developed by financial technology startups should expect to face a competition like never before.
3. Banks will win in both parts of the new formula of success – human + robo-advisor
Finally, financial institutions may have an upper hand in regaining dominant footing with all categories of customers as Robo-Advisor + Human model gradually proves to be the most winsome. As we have noted earlier this year, this new-found formula of success – robo-advisory laced with the human element – seems to be gaining traction with big companies and startups alike eager to incorporate the same into their offerings.
Why do institutions have an upper hand in this scenario? They have both elements sorted out – superior human element, nurtured through decades of experience in the space, and now, lessons applied to the technological side of the business.
“The “Robo” revolution which doesn’t have a lot of “robot” in it was very much needed to address a combination of high fees and low transparency in the investment industry. As solutions based around Artificial Intelligence mature, the next revolution will move from decision-trees workflow to dynamic analytics and recommendations catered to the individual needs and goals real-time,” shared Alex Medana, Founding Partner and CEO of FinFabrik. “Until then, the hybrid model of “Human + Robot” brings the best of both worlds, i.e., the relationship, empathy, and trust of the human engagement improved by the analysis and calculation speed and power of the machines,” he continued.