In the last several years, multiple studies have painted a bleak image of the financial services industry. As financial professionals face margin compression from the entrance of automated investment solutions, they also face a skeptical consumer market that believes company interests are prioritized over their clients.’1 Further compounding these headwinds is a generation of wealth inheritors – millennials – who stand to inherit $30 trillion2 over the next several decades and of whom a mere 14% look to financial professionals for guidance of financial matters.3 Lastly, the DOL requirements (“DOL Ruling”) have set a clear precedent of the regulatory direction, where investors’ interests must be held in the highest regard with explicit cost (fines) awaiting firms that fail to comply.
Startups are often viewed as a near-term solution to complex problems, as they have the ability to rapidly iterate and build meaningful technology without the time drag of multiple stakeholders’ approval that is oftentimes present in larger organizations. With such a foreboding undercurrent of the wealth management industry, you would imagine a fervor of collaboration between startups and established financial institutions and yet, the numbers paint a very different picture. Below is a graphic I created of over 6,000 companies inside of the Crunchbase database that have Category tags of either Finance, Financial Services, or FinTech.
The number of startups innovating on behalf of the wealth management industry pales in comparison to other segments. Banking has nearly 5 times more startups building technology for its benefit than wealth management. The obvious question is “why?”
Is it Market Size?
One reasonable explanation could be market size. In other words, if the banking industry is nearly 5 times the size of the wealth management industry, assuming similar margin and scalable opportunities for startups, then it would reasonable for startups to innovate place in similar proportions.
Below is a table of AUM, margins, and estimated annual revenue of each industry.
THE AUM for the wealth management industry includes all BDs, independent RIAs, wealth managers, and TAMPs – not asset management. Even though I blurred some details – margin on AUM could be slightly different, ancillary revenue sources are not named, etc. – this a decent approximation of the size of these industries and should give us confidence to conclude that the disproportion of startups innovating for banks and not for the wealth management industry is driven by something other than market opportunity.
Let’s Get Structural
Startups innovate so little for the wealth management industry because structural facilitation is missing that would allow entrepreneurs to build technology around validated, scalable problems (as an aside, Visualize Wealth started off building technology for the wealth management industry and later pivoted to building for investors and banks, because of this exact issue). Look at any of the 20 largest global banks. If they don’t run an accelerator themselves then they actively sponsor, participate in, and send representatives to accelerator programs. Furthermore, every bank has personnel explicitly in charge of engaging with the FinTech Community (this role almost always has the word “FinTech” in it… e.g. Head of FinTech Strategy).
By structurally incorporating FinTech engagement into their corporate structure and actively participating in the Startup Community, banks have achieved three key results:
Early Influence: If you engage with startups after they have defined their their value proposition (and begun building technology), then you’ve missed the opportunity to have them innovate on your behalf. By engaging with startups at early stages of their company’s creation, banks have influenced startups to build technology to solve their industry’s problems
Solving Real Problems: The single most important hurdle a startup must first overcome is to ensure a real problem is being addressed. Because banks involved in accelerators provide access to decision makers and a variety of business units, startups are able to validate needs and do effective discovery much more rapidly than if they were validating without similar access.
A Symbiotic Relationship: Because banks have collaborated with startups at nascent stages of the company’s development, they have allowed startups the privilege of addressing a real problem without needing to acquire large numbers of consumers – which can be very costly. The result is that startups get to solve real problems that are most effectively addressed by dynamic organizations through rapid iteration. At the same time, banks get to provide their customers with better experiences and improved technology.
The wealth management industry has much to learn when it comes to fostering innovation and partnering with startups. The way banks have approached FinTech innovation could serve as a blueprint for the wealth management industry to nurture relationships with the startup community and by doing so, the wealth management industry could more rapidly evolve to address the myriad of challenges it faces in the coming years.
- CFP Board: 2015 Consumer Opinion Survey, p. 2 ↩
- Mamta Badkar, The Greatest Transfer Of Wealth In The History Of The World, Yahoo! Finance, 2014. ↩
- 1Q14 UBS Investor Watch report titled Think You Know the Next Gen Investor? ↩
- Federal Reserve Bank of St. Louis, Net interest margin for all U.S. Banks ↩
- Federal Reserve Bank of St. Louis, Deposits, All Commercial Banks ↩
- Understanding the RIA Channel ↩