investment viewpoints

How is FinTech transforming financial services?

26 February 2020

Jeroen van Oerle

Portfolio Manager

Christian Vondenbusch

Portfolio Manager

In this Q&A, portfolio managers Jeroen van Oerle and Christian Vondenbusch discuss FinTech and how digital technologies are changing financial services and companies.

Why did you join Lombard Odier?

Jeroen Van Oerle: We believe in focusing on long-term, global trends and taking a bottom-up, disciplined approach to high-quality sustainable companies. Lombard Odier shares these values which was a big factor in our decision.

Christian Vondenbusch: We liked the entrepreneurial spirit that is central to Lombard Odier. This is a very cooperative place, with a pure focus on fundamental investing. There is broad support across the organisation, and strong collaboration in terms of sharing best-practices and ideas. This is an environment where we can operate most effectively and deliver the best results for clients.

What is Financial Technology, or FinTech?

JVO: FinTech is the broad term applied to technologies that either enhance existing financial services, or enable the creation of new financial products and services. It serves to both disrupt existing financial services and sustain innovation within them.

CV: FinTech emerged in the aftermath of the 2008 global financial crisis. This point in time was marked by the rapid development of new digital technologies, which coincided with regulators forcing banks to hold on to more capital, instead of spending it on these technologies themselves. Developments in technology and new consumer expectations also meant financial services could be delivered in novel ways. In this environment, FinTech flourished.

Does FinTech investing prioritise financial or technological expertise?

JVO: A full and complete understanding of the dynamics of the FinTech landscape requires in-depth knowledge of both financial services as well as technology. We believe that to prioritise just one, as is often the case in this industry, is to cultivate a weakness in the investment process.

CV: On the financial services side, expertise is pivotal to identifying how regulations, capital requirements and other factors drive the sector. On the technology side, specialisation is necessary to fully evaluate new technologies and their potential to disrupt.

This explains why we have taken the unusual step of bringing portfolio managers from both the technology and financials areas to work together on developing a holistic strategy.

What are the drivers of FinTech?

CV: In order to determine the growth potential we only consider trends and do not invest in what we consider to be hype. The key difference between these two is longevity and potential monetisation. Research has shown that most market participants focus on the short-term while underestimating the long-term. This inefficiency creates opportunities to add alpha by expanding the investment horizon away from the next quarter and into the next decade.

JVO: In our view, three megatrends drive FinTech. Demographics is a key megatrend and refers to the rise of a younger, tech-savvy generation of Millennials and Gen Z, especially in China and India. We see this arriving in combination with strong growth of the middle class in emerging markets.

Technology is, obviously, very important. After the digitalisation of the consumer and manufacturing side of the economy, we are convinced that the financial sector will go through a similar transition.

Finally, we consider the implications of worldwide inequality. Financial inclusion is a growing phenomenon which has brought 2 billion people into the financial system in emerging as well as developed markets. This represents a very strong and secular growth trend as once this group is incorporated into the financial ecosystem at a basic level, it opens the door to a wider variety of financial services down the road.

How are digital technologies changing financial services and companies?

CV: FinTech already had a huge impact on financial services in numerous ways: artificial intelligence has been integrated with front-end applications; the flexibility and efficiency of back-office operations of traditional financial institutions has been enhanced through software breakthroughs; and consumers have access to new products and services like blockchain and digital currencies.

JVO: FinTech is already a USD150 billion industry and we estimate it will grow by around 20% over the next 5 years. FinTech is going to keep reforming financial services at every level but we think there are five key trends to watch for in the coming decade

The world will move towards a fully cashless society
Digital finance will lead to financial inclusion for all
The rise of technology ecosystems offers opportunities in FinTech
Digitalisation will continue to lower barriers to entry, improving efficiency and enabling new financial services
Cybersecurity and insurance are basic necessities for all digital financial services

How do you translate these trends into a strategy?

CV: The starting point of the investment process is analysing the relevent trends. These are thoroughly researched and supported by a large network of industry experts, private equity and listed company contacts.

JVO: The next step is to translate these trends into an investable universe comprising of close to 250 companies that best execute on these trends with a high purity factor. This universe grows and shrinks at the same time. It shrinks because of high mergers and acquisition (M&A) activity that comes naturally as a result of the benefits of scale. And it grows because of a healthy initial public offering (IPO) pipeline.

These are filtered using a thorough financial track record analysis based on economic value added and cashflow analysis. We prefer internally-financed models with a solid environmental, social and corporate governance (ESG) profile. Out of this filtered universe, we select holdings based on fundamental and forward looking analysis.

CV: We aim to diversify our holdings across three categories: established FinTech, enabling Technology and upcoming FinTech, with each category having its own unique characteristics, which complement one another well to create concentrated but well-diversified exposure.

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