Breakthrough innovations in the financial sector

A disruptive technology is an innovation that replaces an existing technology, product, or service, and often forces it out of the market entirely.

Alex Coagne, equity manager and analyst

What is breakthrough technology?

A disruptive technology is an innovation that replaces an existing technology, product, or service, and often forces it out of the market entirely. Disruptive Technology Theory was developed by Harvard professor Clayton M. Christensen, who describes a process that typically starts with a low-resource startup that challenges large, established companies. Prof. Christensen says breakthrough innovations often come out of the blue and incumbent operators are not initially interested in them, especially because of the small volume or small customer segment. In addition, disruptive technologies tend to perform worse, at least initially, than existing products or services. However, over time they may experience strong growth and eventually completely or partially crowd out established markets or products and services.

Unlike disruptive innovation, continuous innovation combines inventions and modifications created by established companies in an attempt to remain competitive in their markets. While these innovations can also be valuable, they often become too complex, too inaccessible, or too expensive to have a real and lasting effect. As a result, customers are looking for less expensive and sometimes more radical alternatives to meet their needs.

Old technology startups today allow us to communicate better, facilitate our social interactions, entertain and rethink our shopping habits. What’s more, they do so by completely transforming the business model of the typical company in the sector, as Tom Goodwin points out in his book Digital Darwinism: “Uber, the world’s largest hauling company, doesn’t own vehicles. Facebook, the owner of the most popular media in the world, does not create any content. Alibaba, the most respected distributor among consumers, has no inventory. And Airbnb, the largest accommodation provider on the planet, owns no real estate.

What about the financial sector?

The last decade has also been marked by many technological innovations in the financial sector. Historically, banks have been major players in this sector, as well as in its entire value chain. High barriers to entry made it difficult for other companies to enter this market until a few years ago. Today, however, entire swaths of the core activities of traditional banks, such as payment services or credit, have been taken over by innovative digital competitors. Thus, in the field of payments, it is fintech companies that compete most strongly with banks: according to BCG, they now occupy from 15 to 20% of the retail and wholesale payments market. These fintechs have a number of advantages, including greater flexibility in the face of market changes or the ability to use advanced technologies, a more compact structure, and a focus on the most profitable segments. However, they suffer from a lack of image and brand recognition, a lack of a customer base, limited access to financial markets and, in general, a lack of initial customer information.

Therefore, if the financial sector develops, it is slower than other sectors and is also subject to disruption. This is evidenced by the results of new business models based on technology: the European Banking Federation notes that the number of physical bank branches in the EU decreased by 36% between 2008 and 2020, i.e. by 82,000. According to McKinsey, in 2020 42% of US financial decision makers said they have at least one FinTech account. This market penetration of new technologies clearly signals a serious risk of disruption for traditional financial services companies. In 2017, almost 90% of global financial services companies were already worried about losing revenue to these new competitors, fintech companies, according to PwC. In addition, the digital transformation of the financial sector has been accelerated by the Covid-19 crisis, which has become a real catalyst. A 2020 global study by McKinsey concluded that Covid-19 “saved several years of digital adoption and many of the changes brought about should prove to be long-term.”

To prepare for an increasingly digital future and protect themselves from the effects of disruptions, in recent years, major banks have decided to step up their M&A activity in the market to acquire fintechs that are embracing various advanced technologies. Indeed, because of their inflexible organization, banks generally do not have the ability to develop the same technologies themselves. For example, Goldman Sachs announced in September 2021 the acquisition of GreenSky, the largest fintech platform for consumer loans for home renovation, for about $2.2 billion. In addition, incumbents are increasingly forming partnerships with their digital competitors. Overall, in the 2021 Financial Industry Business Sentiment Survey, Lloyds Bank found that 46% intend to increase investment in their FinTech capabilities in 2022 through acquisitions or partnerships.

Potential Opportunities Created by the Financial “Revolution”

consumers in the post-pandemic world as digital innovation transforms the banking system. In addition, this financial “revolution” should also offer interesting opportunities for active investors who are well versed in the development of the sector. To take advantage of this context, our Thematic Equity Strategy The Future of Finance invests globally in financial groups that properly integrate the evolution of the sector. The strategy explores the theme of “The Future of Finance” by investing in both innovative banks and new players reimagining the traditional banking business. Our Future of Finance strategy uses a proactive, persuasion-driven investment process that combines a top-down analysis to identify sub-themes that we find most attractive, with a bottom-up approach. based on deep fundamental analysis of each security by the portfolio management team. The strategy specifically offers investors direct access to sub-topics such as banking, payment and transaction services, specialized financial services, and disruptive financial companies. In line with what Marie Curie once said: “Nothing in life is to be feared, everything is to be understood”, our investment thesis postulates that financial companies that can reimagine their brand, their business model and their operational processes in to respond to new consumption patterns, there will be those that will create the most value for their shareholders in the long run.

If we wanted to give an example of an innovative bank in the Finance of the Future strategy portfolio, we could give a full-service retail bank, Signature Bank*, which has offices for private clients in Greater New York, Connecticut, North Carolina and California. Signature Bank clients have access to a wide range of banking products and services for businesses and individuals, as well as investment, brokerage, insurance and insurance products. One of the main features of this bank is its commitment to cryptocurrencies: it is indeed one of the first banking institutions to accept Bitcoin deposits.

ODDO BHF AM is the asset management arm of the ODDO BHF group. This is a common brand of five management companies.

legally independent ODDO BHF AM SAS (France), ODDO BHF PRIVATE EQUITY (France), ODDO BHF AM GmbH (Germany), ODDO BHF AM Lux (Luxembourg) and METROPOLE GESTION (France). This promotional document is compiled by ODDO BHF ASSET MANAGEMENT SAS and is intended exclusively for use by classified professional clients (MiFID Directive). It must not be distributed to the general public. The investor is informed that the strategy presents a capital loss risk as well as a certain amount of risk associated with the instruments/strategies in the portfolio. The cost of investing in this strategy can either decrease or increase and cannot be fully recovered. Investments must be made in accordance with the investment objectives, the investment horizon and the ability to withstand the risk associated with the transaction. ODDO BHF ASSET MANAGEMENT SAS is also not responsible for any direct or indirect damages resulting from the use of this publication or the information contained therein. The information is given for reference only and is subject to change at any time without prior notice. The views expressed in this document are in line with our market expectations at the time of publication of the document. They are subject to change depending on market conditions and cannot in any way incur the contractual liability of ODDO BHF ASSET MANAGEMENT MANAGEMENT SAS.