Digitalization of products processes in the field of financial professional services is expanding in all banking activities and driving a structural reorganization of the sector. Independent Wealth Managers (IWMs), due to the nature of their business, initially thought that, unlike to retail banking that has already been leveraging these evolving technologies (digital cash, deposits, marketplace lending, credit underwriting and bill payments), their sector was too complex for FinTech disruptors to appropriate it. Technological advance creates cost efficiencies and enables new types of services to be provided. Digital offering in several channels helps to reduce costs and increase the productivity of classical activities like account-opening and onboarding. In parallel, automatization reduces operational risk at the back-office level. With regard to digital services that are to be provided, IWMs must offer their clients not only basic services like online account opening but also modules that are specific to wealth management, such as access to portfolios, financial research and social media.

Financial technology describes the evolving intersection of financial services and information technology (PwCFintech, 2016). The concept embraces two main players: the incumbent financial firms which look at lowering costs and offering new tech-driven solutions, and startups using technology to offer new tech-driven solutions from mobile payment solutions and crowdfunding platforms to online portfolio management tools. Digitalization is certainly a medium for promoting the relationship between clients and IWMs by supplementing traditional contacts with digital interactions that are available anywhere/anytime/any device in particular for Millennials and Xers who are used to interactivity (Harber, 2011). PwC in its Global FinTech Survey (2016) revealed that “two-thirds (69%) of HNWIs under 45 use online and mobile banking and over 40% use online means to review their portfolio or investment markets”.

Among the new FinTech concepts, a great deal of activity is anticipated in robo-advice. Singh and Kaur (2017) define the concept of robo-advisor as an online wealth management service that provides an automated, algorithm-based portfolio management service without the use of human financial wealth managers. To minimize the embedded costs this type of platform uses low-cost ETFs. Some people imagine that robo-advisors could replace human wealth managers in the medium-term, but the concept goes beyond purely automatic portfolio management (Lam, 2016). We can firstly consider the “robo” side, which is about the automatization of an activity that was previously manual for the purpose of improving performance. The “advisor” aspects refer to information processing as a result of “machine learning” or AI. Robo-advisors as automatic managers are gaining significant attention but they hold a tiny market share for the moment. In most cases, algorithms that will automatically manage portfolios are built on the Markowitz model developed in the fifties (Ha, 2010). This theory is based on the asset diversification principle, combining assets to obtain the best performance for a given level of risk. If we take the stock market, the main idea is that stocks in some sectors will evolve in a desynchronized way in relation to others.

The main weakness of the Markowitz model is its very strong sensitivity to input parameters, and, in particular, the expected returns for the different assets. In the case of robo-advisors, a certain quantity of key information is impossible to register in a data base and robo-advisors have no access even though it can have importance for the investment decision. This is one of the main limits of these automated systems. Several studies show that personal contact with the advisor will remain significant, in particular for HNWs (Cocca, 2016). Another limitation is that the digital transformation is so dynamic that it exceeds the changes in legal framework and as a result creates legal insecurity. Robo-advisors will create new legal issues in particular when it comes to consumer protection as underlined by Philippon (2016).

Start-ups like Betterment and Wealthfront already propose a rather comprehensive offering without human intervention. If we take a critical look at the data revealed by Better Finance (2016), the threat from robo-advisors can be highly disputed. Let’s take the USD 2 billion assets under management at Wealthfront in 2016 which are allocated among 355,000 clients; the average account amounts to USD 8,450. This average climbs to USD 24,000 in the case of Betterment; in short, we are very far from the HNW’ market. It will develop, but certainly in a retail class of clients. Out of an abundance of caution, the literature sees algorithms offered more as a commodity (Cocca, 2016). In addition, McCarthy (2017) identifies two potential behavioral risks for “robo-clients”. The first one is complacency; as returns have been good in very recent years the robo algorithms appear to be working properly and so investors may pay less attention to their portfolios. The second is lack of long-term experience and how the service will react during a period of significant market sell-off. Clients risk experiencing a higher volatility with this tool than with a traditional advisor. The risk of the robo-advisor is that it requests, for the client, a fine knowledge of the markets without offering the clients the opportunity to develop their knowledge. Anyway, in the future new systems will be able to encompass the client in a more targeted manner, offering a larger range of services and thus competing with the human advisor.

A clear distinction has to be made between scholarly literature and “brochures” edited by big IT service and consulting corporations as they provide “alarming” surveys concerning digitalization; this attitude is mainly due to their marketing motives. Researchers and scholars are more cautious about the scenario. They see that FinTech companies are generally not in competition with incumbents. Literature underlines that there are numerous limitations to digitalization that make one think that there is enough time to adapt. These limitations can be technical (robo-advisors), or legal, or the desire to have a human advisor.

In terms of services performed, digitalization has to be improved; for example, the possibility of automatically analyzing the composition of a portfolio and determining what is missing with the possibility of triggering an instruction by the wealth manager or the client. Some of the new applications are enabling clients to manage their investments and their bank relationship and to have a consolidated view of their wealth. A further step has been accomplished by companies that offer services purely online but their implementation remains complex due to the legal system. Legislation will certainly evolve favorably and will allow robo-advisor-type systems to widely enter the market. Technology is a huge boost to innovation and the capacity to innovate will determine the future success of financial services. The consolidation trend will continue for the incumbents but on the other hand there will be new entrants in the FinTech area.

Digitalization will result in reorganization of the value creation chain and industrialization of the financial sector. Competitive differentiation is probably the greatest challenge as it implies substantial initial investments in terms of finance and organization since technology alone will not be the differentiator.

Yves Reichenbach (April 2018)

References

Better Finance (2016) “Robot Advice” for savings & investments a misnomer with real potential benefits. Brussels: The European Federation of Investors and Financial Services Users.

Cocca, T. (2016) ‘Potential and Limitations of Virtual Advice in Wealth Management’, The Capco Institute Journal of Financial Transformation, 44(2016), pp. 45-57.

Ha, H. (2010) Markowitz Theory-Based Asset Allocation Strategies with Special Regard to Private Wealth Management. Rostock: Universität Rostock.

Harber, J. (2011) Generations in the Workplace: Similarities and Differences. Johnson City: East Tennessee State University, School of Graduate Studies.

Lam, J. (2016) Robo-Advisors: A portfolio Management Perspective. New Haven: Yale College.

McCarthy, E. (2017) ‘Risk Management for Private Client’, CFA Institute Magazine, 28(2), pp. 30-32.

Philippon, T. (2016) The FinTech Opportunity. New York: Stern School of Business, New York University.

PwCFinTech (2016) What is Fintech? Delaware: PricewaterhouseCoopers LLP.

PwC (2016) Strategy& Sink or Swim, Why wealth management can’t afford to miss the digital wave. London: PricewaterhouseCoopers LLP.

Singh, I., Kaur, N. (2017) ‘Wealth Management Through Robo Advisory’, International Journal of Research – Granthaalayah, 5(6), pp. 33-43.

Other articles

Independent Wealth Managers: Demographic and Socioeconomic Trends

Independent Wealth Managers: Clients’ New Expectations

Independent Wealth Managers: Change in Return and Products

Independent Wealth Managers: Declining Customer Loyalty

Independent Wealth Managers: New Challenges

Critical Analysis of M&A Concept

The Benefits of Self-evaluation/Self-assessment

L’utilité de l’audit dans les PME

RIE III une réforme indispensable 

L’or, “Relique barbare” ?

Forfait fiscal : quel avenir ?

Bâle III – Nouvelles règles prudentielles bancaires

Fiscalité: la Suisse dans la tourmente

Smart contracts : une programme de confiance non traditionnelle