In addition to the not insignificant task of attracting clients and their money, robo-advice businesses (and I use that term in the loosest possible sense) face several challenges in 2018.
Attracting clients means more than offering an online application for a model portfolio. Features such as free bank account aggregation are already becoming a digital standard bolt on to entice people who may not be used to checking their investments every day into checking their bank balance, credit cards and spending behaviours via an app.
Most bank account aggregation right now is done by screen scraping, a technique which is not illegal but nor is it favoured by security nerds.
The new General Data Protection Regulations, which come into force May, will most likely see the end of screen scraping, to be replaced by the Open Banking API. While there may be longer-term benefits over screen scraping, in the very short term this means a change of technology, API supplier and terms and conditions, with a heavy reliance on third parties to deliver on time.
Those third parties are unlikely to offer every bank account on day one so it will take some time and care to select the right partner.
More than one fintech business sells client information on to third parties for marketing purposes, and this appears to be a significant stream of revenue for these unprofitable new starts. Stricter disclosure requirements under GDPR and heightened consumer awareness should make this harder to do by stealth, assuming most do not realise this is happening already. Consent hidden in an online term of business is not enough under the new rules.
2. Mifid II
Anyone following a traditional full advice, annual review process will adjust to the new rules under Mifid II without too much trouble. Execution only and light touch, limited advice businesses, such as robos, have more to worry about.
Annual suitability assessments will increase the burden for those who hoped to sell and walk away, while the corporate governance required to ensure products are only targeted at and sold to an appropriate audience is a step up from where most will be right now.
The management information required to monitor and constantly re-calibrate this will need to be built in addition to the process for analysing it and making changes. Most robos have discretionary permissions so will also have to implement the 10 per cent warning rule.
Mifid II is a complex piece of legislation with an incredibly demanding implementation deadline. A new start fintech business may benefit from an enthusiastic, young management team from outside financial services, but Mifid II is exactly the sort of tedious rule change that requires experience, authority and nous to drive through successfully in a small, busy organisation.
Online challenger banks face similar questions around their experience in dealing with more mundane matters against a backdrop of constant legislative and regulatory change. They need to run a bank, digital or otherwise.
Robos burn cash fast. The pay-off is a long way off in the future. Interest in investing in fintech has never been higher but there is a lot of competition. Several me-too robos have launched in recent years and many are looking for the next round of funding at the same time.
Right now, corporate financiers are thriving, with high volumes of mergers and acquisitions. Even corporate finance firms are buying each other. However, there are indicators that this has peaked and, if the money dries up, so will the robos.
Investing in robos and fintech generally is a bit of a tricky one. There will be some big winners but most of the rest will lose. Schroders’ reluctance to put its hand back into its pocket for Nutmeg’s last fund raise was seen as a negative sign for the market by many. However, we have since seen more acquisitions, including Aviva’s purchase of Wealthify this month, having declared its desire to become a fintech giant in May.
This is a global trend. The US has long been at the forefront of hard to explain robo valuations. In Europe, BNP Paribas bought Belgian robo Gambit in September and German giant Allianz took a stake in Moneyfarm a year previous. There are plenty of other examples. A collapse in corporate finance interest in this market would probably also be global.
Robos have also benefited from tailwinds in previous years. Funding has been readily available, the FCA set up a special unit (with free sandbox) specifically designed to encourage digital innovation and disruption, and large institutions have been willing partners for software and services which will help shore up their back book.
With the FCA having encouraged robos so heavily, some will have reasons to wonder why the environment could get tough in the UK now. Well, Mifid II and GDPR are EU directives and regulations respectively and a funding crisis is also completely outside FCA control.
As any platform or provider that has been through hundreds of pension changes will testify, it is nothing to be surprised about. It will be interesting to see if there are new UK sweeteners for robos planned once detailed Brexit work around regulation gets started.
Phil Young is managing director of Zero Support