China is disrupting global fintech

In China, the abacus was mentioned by theEastern Han Dynasty (25-220 A.D.). During the Song Dynasty (960-1279), the Chinese were the first to use paper money.

In late 2013, many Chinese raved about Yú’é Bǎo, 余额宝 (“leftover treasure”), a money market fund offering roughly double the interest rates banks did. Launched by Alipay, an Alibaba subsidiary, the fund attracted 150 million clients and $93 billion within 18 months, a phenomenal feat.

A confluence of factors puts China at the financial technology (“fintech”) forefront: economic advancement, investor behavior, mobile technology, big data, financial industry liberalization, and regulatory acquiescence.

Chinese consumers have readily adopted fintech services such as online banking, currencies, money transfers, payments, crowdfunding, lending, investing, and insurance.

At the 2016 Fund Forum Asia conference in Hong Kong, industry experts discussed the impact of fintech in China.

Jonathan Ha, CEO of Shanghai-based research firm Red Pulse, spoke about the next frontier in Chinese finance: “It’s no longer the banks. I think the future depends on the disruption of those banks and mobile banking is one option for disrupting them.”

Porter Erisman, former Alibaba Vice President and author of “Alibaba’s World,” lived in China in the 2000s when paying rent required waiting 45 minutes in a bank. He said, “By definition, any company that has 20 seats in a waiting room is not servicing its customers.” Today, he asked, “Why even go to the bank? Especially when you can use your cell phone to transfer money.”

A unique variable spurring demand for services such as remittance transfers is China’s rural migrant workers, numbering 277 million people according to the National Bureau of Statistics.

And China’s fledgling financial markets lack legacy preferences that are evident in many developed markets. In the West, for example, consumers and investors veer toward well-known, traditional brick-and-mortar institutions that have higher assumed levels of safety and expertise than online companies.

This mentality is not ingrained in China, where first-generation savers and investors have no qualms entrusting online retailers, search engines, travel agencies, social media networks, smartphone providers, and start-ups for financial services.

In developed markets, many financial products including mutual funds, mortgages, and insurance plans involve intermediate marketing steps and fees. The Chinese happily skirt these steps. Erisman said, “Especially in China, people will do anything to get around the middleman.”

Additionally, traditional financial services are geared toward the wealthy. Technology, however, enables scaling, making it economically feasible to address the masses, particularly China’s vast geographically-remote markets.

According to Barry Freeman, co-founder of Beijing-based fintech company PINTEC, mobile is now “the entry point for client acquisition strategies.” PINTEC’s wholly owned subsidiaries include Dumiao, Xuanji, Yidian Fund, and Jimubox.

China has almost 1.3 billion mobile phone users, many on 3 or 4G networks. According to reports, by 2020, the government plans to invest more than $320 billion in broadband internet infrastructure, benefiting rural areas that lack established banking networks.

Freeman recognizes the value in strong financial brands, but said, “We believe the market will be won by internet businesses or businesses with internet DNA.” Especially with the bālínghòu and jiǔlínghòu, ’80s and ’90s generations, “The market is quite difficult to attack from offline to online,” he remarked.

Online users expect different cultural, branding, marketing, functionality, cost, customization, engagement, and service experiences. Freeman said, “It’s very difficult to customize traffic-based selling. It’s fraught with challenges”

Beyond automated transaction services, companies like PINTEC provide more advanced investment management services, dubbed roboadvisory, digital wealth, or digital advisory services. Although in the early stages, they aim to incorporate big data and artificial intelligence to provide appropriate, affordable solutions.

These accounts often blend investment recommendations from the roboadvisor with some client decision-making, which is especially well-suited for Chinese investors who value lower fees and being involved in the process. Jeroen Buwalda, Partner at EY, said, “Asian entrepreneurs have faith in themselves, not fund managers.”

Chinese clients also desire to invest over the next hour or minute, not next week after meeting with a financial advisor. In conjunction with China’s economic growth, demand for financial services is increasing.

When addressing the market, one advantage online companies have is access to voluminous client and prospect data, which traditional financial services companies lack. Alibaba, for example, has more than 420 million customers who have provided the company with behavioural data for years.

Erisman spoke about using data and said Alibaba’s leadership thought, “Alipay could become much bigger than just online payment. We always thought Alipay could actually grow to become a huge financial institution.” It has. Spun off from Alibaba, Alipay now falls under Ant Financial, a full service financial services enterprise, which analysts have valued at approximately $60 billion.

Following this success, other online companies, start-ups, and traditional financial services companies are contemplating how to enter this mushrooming sector.

At the conference, Simon Hopkins, CEO of Milltrust International said, “In terms of the evolution of fintech, we’ll see lots of new businesses run by technologists coming into this space before we see the investment management world really understanding the way the world is changing.”

Although tech companies are leading the initiative, traditional Chinese financial companies are developing fintech solutions in-house or are acquiring them, enabling them to reach new clients, improve service, and increase internal efficiency. This quarter, Reuters reported that Chinese regulators are easing restrictions that currently hamper commercial banks’ investment into technology enterprises.

For Hong Kong-based Harvest Global Investments, for example, fintech can improve client communication and eliminate fees associated with marketing products through traditional bank channels. Jeff Lim, Executive Director, said, “Roboadvisors, the online platforms and such, those are essentially new ways to reach out to your end investors or customers…That gives us a way to reach our clients directly.”

Sometimes, clients won’t realize new technology was implemented. Fintech eliminates non-client-facing, middle- and back-office jobs in risk management, compliance oversight, report generation, trading execution, transaction settlements, and other operational functions.

Buwalda was more bullish on the adopters, such as banks and asset managers, than the technology providers. “I think the money is going to be made not by the robotechnology solutions companies, but by the people who employ them,” he said.

According to Buwalda, one roboadvisory support staff can service more than 10K clients. And robots can cost one-tenth as much as some full-time employees while working break-free, 24/7. “In five years time,” he believes, “it will already look quite different than it is today.”

He also spoke about value from blockchain. Blockchain is an open, distributed database or ledger that reduces the need for third-party intermediaries, decreasing transaction costs and execution times.

Going forward, declining technology costs and China’s inexpensive labor market will ensure it remains a fintech axis.

Regulations are also supporting the industry. Appropriately regulating financial services is challenging. If policies are too lax, investor risk increases. Too stringent, innovation is stifled.

Unlike developed markets where regulations were instituted prior to technologies being invented, Chinese regulators are relatively young and are evolving with fintech. They do not need to re-write existing regulations, an arduous task.

Going forward, declining technology costs and China’s inexpensive labor market will ensure it remains a fintech axis.

In an EY report, Douglas Arner and Jànos Barberis wrote, “China is formalizing this harmonious relationship between banks and fintech players by creating a tiered regulatory regime…China is increasingly at the forefront of regulatory developments within fintech, signaling a dramatic change in the origin of where regulatory standards may emerge from.”

Although regulatory scrutiny is increasing, Chinese officials have thus far been more liberal than other markets.

Yú’é Bǎo, for example, was bottom-up driven with Alipay addressing a market need and subsequently managing regulatory concerns. Erisman said, “Our view was always, run ahead, do it, prove to the government that it will in the long run benefit the Chinese economy, and then ask for forgiveness later.”

In contrast, on a “60 Minutes” segment, Lesley Stahl spoke of issues fintech in the U.S. faces. She said, “While it’s still a small slice of the financial industry, the powerful and rich old guard is fighting back. Its lobby already pushing for more regulation to curb the newcomers.”

Erisman did acknowledge that China’s fintech regulations could tighten: “The only limit to it is how much the government will allow. Ultimately, [fintech] could destabilize the banks in China if it happened too quickly.”

Although more stringent regulations could temper growth, the trend is toward greater fintech adoption in China, driven by technology companies.

At many traditional institutions, inertia dominates, slowing adoption. In a room of approximately 350 investment management professionals, one conference speaker asked, “Who has traded via roboadvisory?”

Four people raised their hands.

Erisman stressed urgency for traditional companies to embrace fintech: “This is something that can’t really wait. Because very soon it will move online with these e-commerce companies.”