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The Fintech 2.0 Paper: rebooting financial servicesWhy a paper for Fintech 2.0? This paper for Fintech 2.0 has been created by Santander InnoVentures, in collaboration with its partners Oliver Wyman and Anthemis Group. The purpose of Santander InnoVentures is to help Santander deliver better services to our customers through innovation, and to support a new generation of fintech start-ups on their growth journey. We believe these goals are inextricably intertwined. Oliver Wymans Innovation Platform has been established to advise both its traditional client base and fast growth fintech firms on the transformational change that is currently underway in the financial services industry. Many fintechs have succeeded but today they are still operating only at the edges of banking. To help engineer more fundamental improvements to the banking industry, they must now be invited inside, to contribute to reinventing our industrys core infrastructure and processes. That can succeed only as a collaborative endeavour, with banks and fintechs working together as partners. This paper highlights the benefits of collaboration and identifies some of the opportunities for profitable change in realising Fintech 2.0. We hope the whole industry both banks and fintechs recognise the value of this approach and join us in this collaborative journey to Fintech 2.0. 2 Mariano Belinky, Managing Principal, Santander InnoVentures Emmet Rennick, Head of Innovation, Oliver Wyman Andrew Veitch, Director, Anthemis3 4 6 8 1. Fintech 2.0 2. Applications for the Internet of Things 2.1. Cutting costs in trade finance 2.2. Improving valuation accuracy of real assets in leasing and asset financing 10 3. Being smarter with smart data 12 4. Embedding distributed ledger technology 14 5. Creating frictionless processes and products 16 5.1. Opportunities to reduce friction in the mortgage process 16 5.2. Frictionless saving and investment 18 6. Conclusion: achieving Fintech 2.0 together 19 Contents4 Over the last decade, however, a new source of innovation in financial services has emerged from financial technology start-ups (“fintechs”) and technology companies (“techos”). These new firms have been quicker than banks to take advantage of advances in digital technology, developing banking products that are more user-friendly, cost less to deliver and are optimised for digital channels. This relative success is unsurprising. These new players are less burdened by the demands of regulatory compliance which banks are subject to. They are unencumbered by complex and costly to maintain legacy systems. They can focus on creating single-purpose solutions, designed to offer an improved experience within just one product or service. They are more in tune with the peer-to-peer (P2P) culture engendered by the explosion of social media. And they are smaller organisations, designed for the purpose of innovation. Capital has flowed into the fintech sector: $23.5 billion 1of venture capital investment in 2013/14. Of this investment, 27% has been in consumer lending, 23% in payments and 16% in business lending. Fintechs have two unique selling points: better use of data and frictionless customer experience. But to date these have been limited to relatively simple propositions such as e-wallets and P2P lending. The impact of fintechs to date After a slow start, fintechs are now capturing a growing market share in these areas. Yet their overall effect on the banking market has been minor. Banks have not crumbled in the face of this new competition. We characterise this first phase of fintech as Fintech 1.0. Yet the conditions for significant change are present: policy shifts towards open data and APIs 2 , the emergence of enhanced technologies such as cloud computing, changing customer dynamics and intense pressure to cut costs in banking. We believe that by extending the use of data and frictionless processes Fintechs can and will expand well beyond the confines of payments and consumer credit. It will move deeper into middle and back office processes providing new, richer propositions for end customers. Fintech 2.0 is just around the corner. It will deliver fundamental changes to the infrastructure and processes at the core of the financial services industry. In this report we consider some important banking innovations based on the “Internet of Things” (IoT), smart data, distributed ledgers and frictionless processes beyond payments and consumer credit. 1. Fintech 2.0 Banks can boast of some important innovations. ATMs, credit cards, securitisation, swaps and mobile banking are now taken for granted, but each was ground-breaking when first launched. 1 Source: Oliver Wyman analysis. 2 Application Programming Interfaces.5 Fintech 2.0 will cause a major disruption of the banking market, as digital technology has in other markets, such as travel and entertainment. Pre-digital business models and processes will be rendered obsolete, and billions of dollars of value will shift to “new model” suppliers. Banks are aware of these changes and the opportunities they present. Many have decided they need to participate in this disruptive trend by actively supporting fintechs the list includes Citi, Santander, UBS, BBVA, Barclays, NAB and Capital One, among others. They have launched incubation and acceleration initiatives, and created investment vehicles to harness, foster and scale up innovation. While banks have disadvantages relative to start-ups, they also have advantages. Being regulated is a burden in many ways, but it creates consumer confidence. A long history brings legacy systems with it, but it also builds trusted brands (albeit tested by the global financial crisis) and provides rich historic data, not to mention a banking licence and a sizable head start in compliance initiatives. And, of course, banks understand banking; especially the risks involved, which new entrants often do not. Collaboration is the key The strengths and weaknesses of both banks and fintechs mean that both will often do better by cooperating rather than by competing. New digital businesses must either grow quickly or die. Banks can offer fintechs immediate scale and critical mass through access to demand. While some fintechs are today focused on the race to build standalone “Unicorns” (a company with a $1 billion valuation), we believe Fintech 2.0 represents a far broader opportunity to re-engineer the infrastructure and processes of the global financial services industry, in which the top 300 banks command a revenue pool worth $3.8 trillion 3 . This is the central premise of this report: that, to realise the opportunity of Fintech 2.0, banks and fintechs will need to collaborate, each providing the other with what it now lacks, be that data, brand, distribution or technical and regulatory expertise. Only by collaborating will the opportunity of Fintech 2.0 be realised. 3 Sources: Forbes, 2015; Oliver Wyman analysis.6 The number of objects able to record and transmit data to other objects is continually rising. 50 billion objects are expected to be linked to the internet by 2020. 4This network of connected devices creates continuous streams of data which can increase efficiency across a wide range of business practices. Many applications already exist: in transport, tracking when a bus will arrive; in pharmaceuticals, monitoring temperature-sensitive products; and in insurance, monitoring the driving style of car owners to preferentially price premiums for safer drivers. As the cost of sensors and data transmission continues to reduce, we are reaching a tipping point where commercial use of the IoT will take off. In financial services, compelling uses have not yet emerged into the marketplace. But the IoT could have many valuable applications (see Figure 1), including: n Product design: Asset financing, for example, could be based on parameters such as kilometres driven or load carried rather than simply the period of time for which the asset is leased, as with traditional models. n Risk management and pricing: Collateral management is a key element of risk management. Better data on the quality and condition of collateral provides more accurate assessment and pricing of risk. n Understanding customer needs: Tracking a businesss activity could indicate when it may have additional growth financing needs, for example, by revealing when leased machinery is working at full capacity. n Streamlining contractual processes: IoT devices will be able to capture data and feed it into digital platforms that govern and verify “smart contracts” (computer protocols that verify or enforce contracts). The collation of real-time data on these platforms can facilitate efficient covenant monitoring, automatic disbursement of assets and automatic release of liens or goods. 2. Applications for the Internet of Things The “Internet of Things” (IoT) describes the widespread embedding of sensory and wireless technology within objects, giving them the ability to transmit data about themselves: their identity, condition and environment. 4 Source: Cisco.1 Monitoring & data transmission 2 Data collection & management 4 Value creation Financial product development Risk management & pricing of nance Identifying additional business needs Streamlining contractual processes 3 Strategic analytics kg Platform to manage data and distribution 7 Figure 1: Application of the Internet of Things in Financial Services8 2.1 Cutting costs in trade finance Global trade finance is a complex process. A dizzying number of manual checks must be carried out to verify the legitimacy of a client, its trading partners and the goods that change hands. Most checks require the physical presence of a person, and the administrative work conducted by bank middle offices is overwhelmingly paper-based. The high cost of this process restricts access to trade finance for smaller businesses and especially those in developing economies whose credit-worthiness is difficult to establish (see Figure 2A). We expect the IoT, combined with the distributed ledger and smart contracts, to dramatically reduce these costs. Specifically, we expect the IoT to streamline the trade finance process as follows: n IoT technology will provide banks with real-time access to trade data, eliminating the need for manual checks and paper documentation such as bills of lading. For example, GPS data would automatically alert the issuing bank once a shipment arrives at a port, and sensory technology would provide information on the condition of delivered objects. The IoT could give sellers and their banks access to real-time information they need regarding goods in transit. n Access to real-time trade details would enable digitised smart contracts to be verified instantaneously, assuming pre-defined conditions are met. This would allow a letter of credit to be issued more efficiently than in todays trade finance process. n By providing accurate, real-time data on trade flows, trade relationships and performance, the IoT can provide information required to underwrite trade finance. This transparency will make trade finance available to SMEs that would otherwise find it difficult to obtain credit approval. Storing this information on a platform will assist in due diligence of new customers. Such platforms will also help smaller suppliers of trade finance identify opportunities where they enjoy a competitive advantage, such as local knowledge or a better understanding of specific risks. This is illustrated in Figure 2B. International trade is expected to grow by 8% per annum until 2020, with associated trade finance revenues growing to $70 billion. 5This represents a massive opportunity for both banks and fintech start-ups to partner and streamline trade finance processes in the ways described. In doing so, they will achieve more than cut operating costs. Improved data and analysis of exposures will also reduce losses and, by increasing the scope of potential clients, increase revenues. Manual pre-screening Letter of credit Manual checks Contracts manually completed Shipping arranged Paper-based verication to be completed Manual KYC and due diligence is time consuming. Limited access to data means many SMEs cannot access finance. Lack of transparency over exact condition of goods in transit. Process of manual checks is costly and creates a higher turn-around time. Unavailability of authorised signatories to sign the paper requests. Pain points A: Pre-IoT trade finance Real time capturing of trade data Letter of credit Real time monitoring Small contract auto lled Shipping arranged Real time verication and digital submission Better underwriting and credit decisions. Authorisors can approve requests remotely. Better knowledge of the condition of goods. End customers can track their goods improving trust. Verification of goods is more reliable and in real time. Elimination of documentation speeds process and reduces costs. Advantages B: Post-IoT trade finance One online platform Multiple platforms 9 Figure 2: Diagram of pre- and post-IoT trade finance highlighting advantages of the IoT 5 Source: SWIFT, 2013.10 IoT technologies can help banks overcome this problem, allowing them to monitor the condition, environment and location of collateral assets without needing to send someone to assess them. They can provide something close to the accuracy of an in-person assessment at a fraction of the cost. Such technology could be applied across a wide range of collateral as illustrated in Figure 3. Inefficiencies in the global collateral management market are estimated to cost banks up to $4 billion annually. 6Adopting IoT technology could significantly reduce this figure as real-time monitoring technology will improve valuation accuracy and render more assets eligible for collateral financing. 2.2 Improving valuation accuracy of real assets in leasing and asset financing Monitoring and valuing collateral leased or financed by banks is made inefficient by the cost of getting detailed information about the asset concerned. 11 6 Source: Collateral Management Unlocking the Potential in Collateral, Accenture and Clearstream, 2011. Real Estate (mortgage) Commodities Fleet vehicle leasing Flag when vehicles require maintenance and also allow financers to have a better understanding of a vehicles present value Provides information on the current condition of the house for valuation and insurance purposes Monitoring the condition of commodities during transit allows financers to know if the condition of goods delivered meets contractual specifications n Hours in operation n Distance covered n Engine diagnostics n Driving behaviour n Weight of load n Terrain dri
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