During the past year, a number of acquisitions of software providers within the fintech space by large banks and holding companies have the potential to shape the industry and the way software is deployed & used by money management firms. Whether they be RIAs, fund managers, wealth management firms, hedge funds or pension funds, large banks and financial services conglomerates are getting into the software business. Their bet is that they will be able to provide monolithic solutions to their clients that deliver fully-integrated workflows from front-to-back office, which will make their custody and outsourcing clients more efficient, allowing them to mutually gain market share over their rivals. While this proposition seems compelling, a number of industry trends are emerging, which may present challenges to what might seem like an emerging paradigm.
Money management firms are experiencing fee compression, which is driving their focus towards cost containment. The physical manifestation of this are the increased number of mergers within the asset management space. This presents a challenge to the large bank/software provider model, since their acquisitions will require extensive cross selling within their client bases to attain an ROI. If you are a money management firm that is experiencing fee compression, do you want to increase your spend in terms of software systems? Not really. If anything, you are looking to reduce costs and monolithic solutions are not very good at doing this. These providers will either need to charge more up front or, more commonly, charge more on the back end in terms of higher custody or outsourcing fees. Either way costs are costs. They take away from the bottom line and money managers are already pressed on the top line.
Software systems that are good at doing everything in general terms are often bad at doing anything in particular very well, which destroys the efficiency argument. A system that has great functionality in a given area may be weak in other aspects, each of which have their own needs and are ever changing. Additionally, a system that is ahead of the curve today in a given area will likely be behind the curve tomorrow as industry priorities change.
Another challenge to the large bank/software provider model centers on innovation. Technology is ever changing and often when a software provider sells out it is because they are at the end of their innovation life cycle. The seller’s bet is that by using the financial resources of the larger backer, they will continue to be able to innovate and keep up with technology to continue growing market share. A number of the recent acquisitions by banks/conglomerates of software providers have a fundamental problem: They have large client bases and clients on differing software versions, which make technology upgrades more difficult. The future of software is based in web, the cloud, utilizes open APIs and leverages productivity tools like big data analytics and Artificial Intelligence (AI). If you look at what their clients are actually using, these software systems do not fit this model.
All of these factors call for an alternative model to the large bank/conglomerate/one-size-fits-all approach. Instead of monolithic systems, money management firms, as well as challenger banks and custodians, should consider looking at individual and specialized fintech solutions that can provide an ecosystem of functionality linked by APIs. In this model, the whole is much greater than the sum of the individual parts. Innovation, as well as competition, will continue to shape these solutions so that they evolve with changing client needs. Not to mention that they typically result in a reduction in total systems cost, which is gained from switching from large providers to individual specialists.
David J. Csiki is president of INDATA – an independent fintech company focused on the buy-side