The ethos of fintech is in large part tightly connected with
the notion of financial inclusivity or democratization of finance. Simply put,
the mission is to provide easy and readily accessible financial services in the
hands of everyone and anyone. One can build a compelling and appealing case
around the democratization of financial services. Through innovation and
disrupting technologies, financial services can not only be digitized but
transformed into achieving financial inclusivity to which conventional approaches
can only aspire. These notions are echoed in the halls of fintech companies,
virtual conferences, podcasts, Clubhouse sessions and, more recently,
mainstream news. It is truly an exciting time to be a part of the fintech
Differentiating itself from the Wall Street stereotype, it’s
not hard to see why some might think this ethos of fintech is new.
Interestingly, we have seen shadows of this ethos before. There was a period in
our history where it was believed everyone in America should own their own
home. To make that possible, financial services were typically needed to
finance that purchase. Leading up to the global financial crisis, financial
services in the form of mortgages were being handed out like speeding tickets
at the Indianapolis 500. What followed was a period of significant regulatory
change to establish guardrails across the financial industry.
Investors in fintech firms demand growth: growth in
accounts, growth in customers, growth in payment transactions and growth in
trading with the intent of commanding a higher multiple. Risk management and
compliance are often not on the radar, as investment dollars are directed
toward driving growth. Like any car, the fintech company will at some point
need brakes in the form of risk management and compliance — usually prompted by
aspirations of a banking license or broker-dealer license, a major equity investor
demanding it as part of a funding round, or worse, a very big capital call.
When the news of the recent roller-coaster saga of
Robinhood, GameStop and the other highly volatile “meme stocks” hit the wires,
I couldn’t help thinking about “Power Peg” and Knight Capital. While Knight
Capital’s predicament was the result of dormant code and human error,
Robinhood’s was the result of social media denizens of Reddit pumping up
GameStop’s share price to a stratospheric peak of $483 in late January, some using
margin and options to achieve double-digit gearing. Robinhood appears so far to
have emerged from the crisis better than Knight did, having navigated the
capital call with the help of its venture capital investors doubling down, but
it has drawn the attention of regulators.
An unexpected outcome of the global financial crisis was the
recognition that compliance was no longer simply a cost of doing business or
necessary evil; it had the potential to be a differentiator and a competitive
advantage. Financial services is about taking risk or helping others take risk.
The stronger one’s risk management, the better one can take calculated risks
and hopefully earn higher returns. Allow me some latitude with an analogy to
better illustrate the point. What component on an Indy or Formula One race car
can make the difference in enabling it to get around the track in a controlled
manner the fastest? The brakes. With strong brakes, the car can go longer,
deeper and faster into the turns. Having strong brakes, like strong risk
management, can be a competitive advantage.
A decade and a half later, the fintech crowd must commit the
same level of innovation to risk management that it is using to develop
consumer applications. It will not only provide individual firms with
competitive advantages but strengthen the industry as a whole. And doing so
would usher in an era of financial democratization that benefits everyone.
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