3615, L’arrivée d’internet dans le monde de la finance – [French]

Sean Park and myself had the chance to be invited to the swiss radio show 36 15: http://www.facebook.com/3615emission to speak Finance innovation and startups.

While recorded in the English speaking swiss radio, it is in French only (well frenglish …)

The Core of the Machine – Banking as a Utility

I have been a strong partisan of Banking as a Service and posted several times on the topic on this blog. Recently I have posted more on the shiny outer layers that could be / are created in such a stack but not so much of the core services under it. So it was with interest that I saw @giyom‘s tweet

A banking utility doesn’t buy debts, issue liabilities nor do maturity transformation, it only is a trusted accountant btw borrowers&debtors

It’s an interesting view, a pure banking utility would provide the pipes to connect depositors and borrowers and maintain the accounting trust between the two, whether direct, in a P2P lending type model, or indirect by reporting aggregated assets and loans. @giyom pointed me also to Dan Kaminsky analysis of  Bitcoin: http://www.slideshare.net/dakami/bitcoin-8776098 - slide 14 and 15 are interesting in his analysis that supernodes in Bitcoin are effectively banks.

In parallel, a second French bank announced the launch of its API: AXA Banque (Credit Agricole was the first one with CAstore). I had the chance to talk with people there and while the current API is READ only, the mention of WRITE capabilities was not rejected from the outset. A Bank that proposes a READ/WRITE API is in effect giving up on a part of the their customer access and accepting its role as a utility for other services (as I pointed out before, it is something well know in the banking industry)

It seems that from both end of the spectrum, whether its is the  technology enabled P2P or traditional Banking, we are moving toward the creation of banking utilities. But what would be the business model of such players?

On one hand, in the P2P lending example and as specified by giyom, the role of the core provider is track and ensure the relationships between borrowers and lender as well as provide additional services such as transparency in the capacities of the borrowers and loan recovery in the situation of a default. In this system, the trusted core providers would have no leverage nor insurance (as deposit accounts are currently protected). In theory, insurance could be provided by an external provider up to certain amount and based on the lenders selected. The business model of such a platform is fee based.

This is the system adopted by platforms such as Zopa,

On the other hand, in a banking platform world, the bank uses the top layer as a deposits aggregators. It can provide non-interest bearing accounts and base interest bearing accounts the aggregator, as well as transaction facilities to help move money between various accounts. It provides the underlying regulated insurance to the end users. This source of deposits become a part of its core assets mix, which can be leveraged for lending. The same or other providers could be provided these lending facilities, with various rates based on risk etc.. The business model of such a platform is spread based.

This is the system adopted by platforms such as Friendsclear

The distinction made above is not as pure in reality. Zopa, LendingClub etc are using banks to manage cash accounts, payments etc..

I think the total disintermediation for banks is not for now and the two systems will live at the same time. What do you think?

Why we need brilliant banks

I have been a strong advocate of disruptive startups in Financial Services on this blog, dismissing some of the banks effort to try and move as quickly as more nimble competitors. But in all respect, for these innovative startups to launch their services, we need brilliant established banks and payments players. That is why I was surprised to read Finextra’s post Citi slaps down Bank 2.0 rivals in Innotribe face-off.

Banking is, as it should be, a highly regulated industry. After all, its all about money:

Money
It’s a crime
Share it fairly
But don’t take a slice of my pie
Money
So they say
Is the root of all evil today

More than banking only , its Financial Services that need to be regulated, for the best interest of all parties (and no the bankers are not the most important one). There is no better example than seeing the young UK P2P lending industry calling for regulation on their activities http://blog.zopa.com/archives/2010/07/26/need-for-regulation/ and proposing a self regulating framework http://blog.zopa.com/archives/2011/08/17/we-proudly-present-the-p2p-finance-association/  while waiting for the regulator to define its own. P2P Finance Association

Financial Services, to work in a global way also need a level of coordination only achieved through mature players and global coordination. Swift is a prime example. The Society for Worldwide Interbank Financial Telecommunication, is a cooperative owned by its members. It operates the pipes that allows banks to communicate with each other. The most known feature is probably payment, but other messages types are supported, from buying securities, to informing of the merger of 2 companies. In most of the world (the US being one exception). Swift is the common language of most financial institutions.

These skills (operating in a regulated environment, coordinating with different players) are very important, because without them, in the current environment, there can’t be any Banksimple, Wepay or Square. These Financial Services disruptors need a ground of base services (secure holding of funds, ability to communicate with other financial institutions) to propose innovative front-end solutions to their customers. There is no point in reinventing the wheel if you can find satisfactory services with a provider and focus on your core.

But this is where we need brilliant banks / financial institutions. Because what happens when they are not is a total disruptions of their business. The recent post of Kosta Peric, head of Innovation at SWIFT, comparing bank to bank payments and Paypal payments is a prime example: http://copernicc.wordpress.com/2011/09/26/money-transfer-experiment-chapter-1-paypal/. Paypal wins easily on the transfer of small amounts between countries.

It’s difficult, for some part of the financial services industry to realize that a winning strategy for them would be to become highly qualified service providers, top notch commodities. That there is a play in becoming the efficient platform of front end services, to be more like a water service company for a major city. I believe (or assume) that is what Citi has in mind when they announced the release of their B2B API:

If banks want to enhance their own brands they need to scale. And the best way to do that is to open up application programming interfaces (APIs).“Banks need to harness the power of the developers out there,” says Citicorp’s Benjamin. 

Disclaimer: My employer Anthemis is an investor in Banksimple. We have recently invested in an innovative licensed bank in Germany Fidor Bank http://www.reuters.com/finance/stocks/F5RG.DE/key-developments/article/2403061. I am a huge fan of Square.

Banking as a platform – what retail banking can learn from investment banking

I have written before on this blog on how banking, especially retail banking could move to a platform model, allowing other services to be built on top of them. The idea is to let other services develop by themselves (using a set of predetermined APIs to your digital platform) on top of your existing offer. Depending on how the relationship is set between the platform and the services, it can become a source of revenue for the platform.

It may appear as a counterintuitive idea to banks, fearing the commoditization of their business but as proven for example by Apple with the Iphone App ecosystem, being a platform is a successful strategy (in 2011 Apple announced it had paid out 2.5 billion dollars to its developers – their 70% cut)

More relevant for banks, it is a strategy already used in their capital market division, notably by their prime brokerage offering. Prime brokerage is a “bundled package of services offered by investment banks and securities firms to hedge funds and other professional investors needing the ability to borrow securities and cash to be able to invest on a netted basis and achieve an absolute return.” In more details a Prime Broker can provide the following services to a Hedge Fund:

- Office Space (including necessary connections to the street)

- Consulting Services (establishment of the fund, etc.)

- Capital Introduction (putting hedge funds in touch with potential investors)

- Global Custody and Securities Lending (operating as an extended Back Office, sometimes including portfolio accounting)

- Financing (how most Prime Brokers actually makes money)

Basically, a hedge fund would plug itself to a Prime Broker platform to operate, shaving off the cost and difficulty of setting the platform itself. The Prime Broker is compensated by the hedge funds on its platform, through the financing it provides and or service fees. Prime Brokerage is an important offering for investment bank, as shown by  JPMorgan recent expansion strategy.

A very similar setup could be envisioned for a retail banking platform. Startups, pursuing various strategies (niche banking, focus on lending etc), would leverage an existing infrastructure providing core banking functionalities. The underlying bank would benefit from an important aggregated asset base, whereas the services companies would be free to focus more on customer experience, acquisitions etc. It would be relatively similar to the relationship between Banksimple and its partner banks, though on an industrialized basis.

Finovate Europe 2011 : Part 2 [A social world and the rise of the amateur]

With companies like Etoro, Stocktwits, Cortal Consors with Hopee or Fidor, one of the key theme for Finovate Europe was how financial service can be changed by being developed around the interaction of its users.

One of the consequences of this approach is the possibility for successful amateurs to become a direct competition to established business model.

- EToro (voted Best of Show) is an online Forex broker with a major twist. By implementing social trading, it allows users to copy specific trades from others or even follow a specific trader.

As seen in the image above, EToro also has added a gaming perspective to trading, by creating traders ranking and watch lists. For now it seems that what is driving the platform dynamic is mainly the game mechanic, but it could be expected that leading traders may be remunerated at some points for their financial advice (in a way close to Covestor for example).

Note:
* When copying a trade, users get a close equivalent to the precedent trade, but not exactly the same one (but teh same trades when following)
* Etoro assured me they have set a killswitch so that if you follow a trader going “rogue”, they will disconnect its followers’ trade. (more…)