A flurry of startups combining cutting-edge technology and finance is all set to uproot the finance industry
After the financial crisis of 2007-08, everyone aimed at making finance safer. A revolution is under way with the advent of technology in finance, making it secure for taxpayers and better for customers.
Financial technology or fintech is the use and application of computer science and related concepts to provide financial services. Motive? To disrupt existing financial systems.
Currently a group of startups covering payments, wealth management, peer-to-peer lending and crowdfunding among many other fields, the fintech firms target an industry that is worth $4.7 trillion. In 2013, they attracted an investment of $4 billion. That number jumped up to $14 billion in 2014. The combination of computer geeks and venture capital is here to disrupt the well-rooted financial services, much like it did to the other industries.
The fintech firms have just made a start: Lending Club, an online marketplace for peer-to-peer lending has arranged $9 billion in loans; not very significant compared to the total credit card debt of $885 billion in U.S. The fintech firms have not yet been tested in turmoil as well. It will be difficult for them to match the convenience and security of a bank account. Additionally, banks will anyway benefit from the innovations these firms come up with. Nevertheless, fintech firms are bound to change the way we look at finance in the following important ways.
The fintech firms are lean. They will cut costs and improve the quality of services. As an example, Lending Club’s expense as a share of its outstanding loan amount is 2%. Conventional lenders like banks have it around 5-7%. It essentially means better deals and offers for borrowers and lenders through Lending Club and the like. TransferWise, another fintech startup, does not charge substantial fees for international money transfer, as banks traditionally do. Small businesses have the convenience to send in their loan applications (online) at any time. Funding Circle receives 50% of its loan applications from small businesses outside of business hours.
The most important aspect of the fintech revolution is the ability of these firms to assess risks in unconventional, smart ways with the help of technology. They dig up and analyze information from social media including social profiles, reviews, blogs to company logistics in case of small businesses. Machine learning models are used to determine the credit rating of consumers. These data-driven statistical approaches are much better than decisions made by bankers through meetings with clients. Humans are prone to error in judgment while algorithms output results only on the basis of data, without any prejudice. An interesting example to quote is that of Italian banks, which charge female business owners more than male business owners, contrary to the fact that women have lower failure rates.
Whether fintech firms will completely uproot existing financial services, only time will tell. But, a sure effect the fintech revolution will have is to force the existing leaders to cut costs and improve the quality of their service.
* Total Words: 492
Written by: Pardeshi Hrishikesh Mohansing
Hrishikesh is a PGP-2 student at IIM Ahmedabad.