The Wealth Management Sector has lagged other financial sectors in terms of innovation. That is about to change.
The last two decades have brought mind-boggling innovations in many sectors which have changed the way we live our lives. The consumer, telecom and internet sectors have led the way – fundamentally changing how we find information, buy and sell things, maintain and develop social networks and entertain ourselves.
Set against this backdrop the financial sector appears somewhat stagnant. Online banking has improved our lives by saving time. And I’m able to transfer funds and exchange currencies with far greater ease and less expense than ever before. The capital markets sector has experienced nothing short of a revolution. Algorithm driven trading now accounts for upwards of 80% of cash equity trades in the US and more than 90% of equity futures.
Within the investment management sector asset management has been the main source of innovation (to simplify things we think of asset managers as offering investment products, primarily funds, while wealth managers focus on managing portfolios for private clients). ETF’s and passive investing have made the greatest impact. It is striking that passive investing can be considered an innovation however when one considers that the main message is that active managers usually fail.
While ETF’s began by providing trackers of market and sector indices, the message from developers of new ETF’s is becoming more inspirational: you can efficiently implement a (possibly complex) systematic strategy by investing in an ETF which is following a quantitatively specified index. So, while the simple ETF helped invent passive investing, it is now leading a broader push towards systematic investing.
If we turn to the wealth management industry it’s harder to identify innovation. In fact, the products and services on offer look strikingly similar to those offered at the start of the millennium, nearly 20 years ago. Within organisations the processes remain quite similar as well.
The lack of innovation is reflected in the share of fintech funding which goes to the sector. Wealth management has received only about 8% of venture investments in Fintechs in 2019 (according to CB Insights and our calculations). A Google search confirms the trend more generally: you will find a plethora of reports from the worlds most respected consultancies arguing that innovation is needed but is not happening in practice. Why is this?
The truth is that wealth management is more complex than other business areas. Some of the high-level factors that lead to complexity are a) the number and type of investment instruments, the myriad of client investment and risk objectives and c) the relevant regulatory regimes and d) the number of client portfolios.
A reasonably simple trading algorithm can handle trading in a stock and its derivatives. An entire trading operation can be aggregated into a single portfolio (per regulatory area due to capital requirements). But a wealth manager should manage 100’s or 1000’s of client portfolios efficiently. And they must also give the client the feeling that they receive a personalised solution. Personalisation means that scalable investment processes are much more difficult to implement.
Wealth managers seek to a) simplify the problem as much as possible by limiting customisation i.e. reducing the permissible investment instruments and investment objectives and restrictions which lients can choose to employ b) implement the best technology to solve the scalable parts of the process (building model portfolios) c) using technology like Excel and in-house coded solutions to address the less scalable parts of the investment process where most flexible solutions are required.
Reducing complexity and limiting customisation makes a lot of sense given the state of the technology available to support wealth managers. But it certainly cannot be described as innovation. Looking forward wealth managers will be challenged to embrace complexity and deliver customised solutions taking into account a wider variety of client’s assets, investment objectives and restrictions.
Thankfully, ground-breaking investment management platforms such as Tindeco VISION are capable of supporting managers in delivering customised solutions. Such platforms harness cloud technology and provides ultimate flexibility by using a microservices architecture. A cloud technology stack can also make use of elastic computing resources, scaling enough to support a global enterprise.
But such platforms must also be designed from the ground up to implement systematic investment processes (or the systematic elements of any investment process) in an automated fashion. In a systematic world modelling asset is the easy part. The modelling of decision rules and investment strategies is the key to efficiently managing portfolios in systematic ways.
A generic approach to creating and handling rules allows virtually any investment process to be modelled as a series of decisions contingent upon sets of permissible assets, client investment objectives, constraints (either from investors, regulator or internal guidelines) and investment views. This design is the future of wealth management technology. It represents a true innovation which will lead to new operating models at wealth managers and a new and better set of investment products for end clients.