Author: Xingchen Zhang
The scope of asset management in various financial institutions are steadily expanding in the wake of informatization, data integration, and risk management. Using the unique perspective of asset management, commonalities of different asset classes are made evident and mutually validated, and allows us to discover new industry opportunities. Thoroughly analyzed and written, Source Code Capital exclusively presents Source Code Research Report Issue No. 8.
- What is involved in “New Finance”?
- From an asset management point of view, what other opportunities are there?
- What is our investment train of thought?
1. What is Involved in New Finance?
“New Finance” is a general term with well-defined boundaries, which describe financial institutions or financial service companies driven by technology. New finance is still in its primary stages; we believe fresh variants in new finance will stimulate substantial improvements in this space.
New finance can generally be organized into the following three categories:
(1) Consumer credit services and pan-asset management.
(2) Enterprise-level financial services.
(3) Informatization and services of financial institutions.
From our founder, Yi Cao’s “Big 3” Fundamental Drivers Investment Blueprint (our 3 by 9 investment matrix), initial stages of new finance are undergoing a three-pronged process: internetization, intelligentization, and globalization. These pieces are all going through the process at the same time, and this is most apparent in the consumer market.
Similarly, for most companies and financial institutions, the internetization process is relatively slow. As a result, this provides us with the next great opportunity in new finance. Today, we will explore untapped opportunities in new finance from an asset- management point of view, using financial institutions as an example.
Figure 1. Source Code’s “Big 3” Fundamental Drivers Investment Blueprint
2. New Finance Asset Management
Asset management is the core business of any financial institution. At the same time, it represents an investment perspective. This includes the process of fundraising, deal sourcing, pre-analyzation, decision-making, risk management, post-investment services, transaction settlement, and more. These categories are divided in accordance to asset classes, including bonds, stocks, non-standard credit assets, notes, and derivatives. Distinctive asset categories are subject to different management styles, while financial institutions cover multiple asset categories, offering different methods of value creation.
From an asset-management point of view, we may discover at precise stages or in specific categories where new finance institutions are creating value. Based on our most-recent observations, in every asset class, each single link in the chain is experiencing the same changes. These changes are mutually valid, leading us towards more undiscovered opportunities in new finance.
(1) Raising Capital
In recent years, P2P (Peer-to-Peer) has undergone rapid developments with strict supervision. Meanwhile, the process of fundraising and obtaining capital for various financial institutions has been developing alongside technological advancements. Progressive institutions such as China Merchants Bank has formed their own team in creating Machine Gene Investment (Mojie Robo Advisory Service). This incentivizes several prior industry benchmarks such as Betterment, a start-up that pivoted towards providing banks with AI investment consulting services. Similarly, banks, insurance companies, and funds take advantage of services such as WeChat Official Accounts, WeChat groups, Ant Fortune Account, mobile banking, direct banking, agency tools, and Inter-bank/Bancassurance to reach more customers. You may find that many start-ups are behind these marketing tactics, data analyses, and system integration ventures.
Aside from banks and financial institutions, wealth gained through various capital markets is distributed to capable fund managers through massive quantities of transparent data, attribution analysis, multi-factor model, and dynamic asset allocation. Top-tier wealth management institutions provide improved client services through user analysis, investment analysis, and evaluating performance indicators of financial advisors. Essentially, every fund is becoming increasingly intelligent, coming up with improvements suited to the risk-return trade-off. While raising capital is strictly monitored, opportunities in new finance reside in combining technology with products to provide great services. In the digital age, anything is possible.
(2) Investment (Including Pre-investment)
This step is the core of asset management, incorporating several important concepts, including: system development, data ingestion, investment strategy development, decision-making, and risk control.
In the investment business, competition is fierce. Every institution is systematically exploring different ways to achieve a unique competitive edge. Informatization and intelligentization play an important role in this area. For a multi-billion asset management institution, a comprehensive system of investment is indispensable. This system should include data collection, preliminary data analysis, risk management models and pricing tools. Information and data processing through deep learning will surely increase decision efficiency. Using the secondary market asset as an example, Wind (the company) itself is insufficient in satisfying the comprehensive data requirements of an institution. The market requires non-structural data from different sources such as the Internet, hardware devices, and even satellite imaging. The market also requires multi-dimensional data organization and analysis, as well as better quantitative models and trading strategies. These financial products are not only suitable to the secondary market, but are more extensively applied to areas such as bank credit, the primary market, insurance, and fixed income. Additionally, the enormous advantages brought in by data monopoly is sufficient in providing one with a pure understanding of the term “asset management,” making it possible to execute correct judgement calls against other investment institutions.
Here, new finance is gradually forming its competitive barriers by thoroughly adapting to advantageous innovations in systems, data, models, and AI.
(3) Post-investment Management
To a certain extent, the quality of post-investment risk management, valuation, and monitoring, have determined the quality of investment returns. Previously, banks were not able to receive word in time before the subsidiary of a corporate client had already defaulted, or that a Fund of Funds failed to discover that the net value of a private equity had fallen beyond the redemption line. Corporate bonds are exempt from rigid payments, so they require improved mechanisms to flag credit defaults. Additionally, auto insurance should run regression analyses on the abnormally high rate of accident claims. There is plenty of variety in asset classes, but post-investment management needs to be real-time, accurate, and data-driven. The Internet has provided us with sufficient data, and in the future; IoT will supply us with even more.
Besides data, there is an escalating need for asset-management institutions to have comprehensive middle and back offices. This will allow for companies to implement risk simulation on underlying assets and cope with rigid regulatory requests, which will help adjust allocations. New finance companies specializing in post-investment management should first explore a narrower point of entry and then combine this with institution needs to discover greater business opportunities.
(4) Trading and Transaction
Trading differs from the investment concepts mentioned above. The execution and expansion of transactions are determined by data availability, information transparency, capital standardization, pricing capability, and participating fund size. In the past, some assets could not be traded. Now, with the trend of data internetization, a more complete quoting system makes all assets exchangeable.
The model of trading for select assets is relatively outdated and requires innovative updates ranging from hardware to algorithms for adaptation. Mature markets require advanced technology to improve trading efficiencies. There are some markets with a smaller trading volume but contain enormous potential for growth. However, they still require infrastructures such as market participants, data processing instruments, and quotation systems. There are underlying opportunities which need to be addressed, and that is where new finance companies could potentially overcome their traditional counterparts.
(5) Exit Strategies
Many institutions have contributed heavy resources towards the “investment” stages but have overlooked the importance of the exiting stage, which completes the circle by securing ROI. A relatively liquid asset requires data-supported exit strategies. In the past two years, illiquid assets, like defaulting assets, have made significant progress throughout the consumer finance world. It is expected that there will be an extension to further other asset classes. In the meantime, we will continue to look out for other opportunities in this area.
3. Investment Ideas
After an analysis from an asset management point of view, we have derived a few directional conclusions regarding “new finance” companies:
(1) New finance companies and traditional financial institutions tend to overlap and are symbiotic. In the long run, both work together rather than compete against each other.
(2) Asset-light business models are not always the best. Models are determined by products and services required by the respective financial institutions.
(3) It does not matter whether the product is SaaS-driven or privately-deployed, the key is whether it can obtain business-related data masking.
(4) Monotonous products will be replaced by opponents. Integration of internal and external data attracts customer loyalty and industry barriers.
We believe new finance is currently in its early phases. Entrepreneurs have a clear understanding for customer needs, product technology, data, and team competitiveness. At the same time, they also face limitations in terms of capital, resources, supervision, and recruitment. Source Code Capital wishes to continue our long-term support for entrepreneurs in new finance by creating enduring real value.