Many years ago, enterprise software was written to run on mainframe computers. This was the best (only?) solution at that time that had the requisite memory and processing power to run these applications and so – despite their cost, inflexibility and operational complexity – mainframes represented the optimal computing model for enterprise applications. Until a new computing model emerged. Based on powerful, plentiful and inexpensive blade servers and a number of new, standard software components, this “technology stack” became the new optimal computing model for running more and more of the enterprise. LAMP was the new 700/7000.
Not only was this new model less expensive, more robust and more resilient, it was much more adaptable. Further, the open standards encouraged a tremendous amount of innovation and experimentation which in turn fostered the development of a vast array of specialist but compatible variations. This enabled bespoke solutions for different applications and environments to be easily developed without the need to build a new platform each time. And as each component in the stack had a very specific role or purpose, its design could be optimised without compromise.
The traditional banking business model mirrors the mainframe: a vertically integrated, all-in-one solution with all the resources and tools needed to deliver banking products and services in one big (black) box. In the context of the 20th century competitive and technological landscape this worked fine. It was the optimal solution. But like the mainframe of the computing world, the all-in-one “big iron” approach to banking is no longer the optimal business model with which to efficiently and profitably serve the banking customers of today. A new approach, predicated on assembling specialist providers of the component elements required to deliver end products and services will prove to be the new optimal business model for banking. Welcome to the (banking) stack.
Take for example the process of making a loan. This actually breaks down into a “process stack” that at a high level looks something like this:
Each layer of this stack requires different skills and resources. The value drivers for each activity are different. Each requires a different mix of technology, design and talent and the application of fundamentally different business models and capital resources. As such, trying to house them all in the same organisation means that some or indeed each of these activities are operated in a sub-optimal fashion. Indeed, the stronger the culture, the better managed the bank is (in the context of traditional, hierarchical models), the more acute is this problem.
That said, so long as margins remained high and competition muted, with competitors operating more or less efficient and skillfully executed versions of the same business model, sticking with the “mainframe” model was just about tenable. However this is no longer the case. New entrants – unburdened by legacy technologies and mindsets – are emerging across the stack with business models that are natively adapted not only to leverage the technologies of today but that also address the changing expectations of customers in terms of pricing, design and user experience. In many parts of the stack, incumbent institutions will find it hard to compete as the best of these new entrants gain traction.
The best managed of today’s leading institutions will adapt to this changing landscape. How? By letting go of their traditional business models, opening up their value chain and making an honest assessment of where in the stack they have a sustainable competitive advantage and where indeed they do not. This is not a trivial change for most traditional banks and aside from the adjustments in technology and business model it will entail, perhaps the most challenging aspect in this transition will be to change the culture and mindset of these institutions for whom open architectures and collaboration is often anathema.
But for those institutions that are able to make these changes, the rewards will be significant. By focusing their resources and talents on the areas of the stack where they have a true competitive advantage, exiting other areas where they are structurally uncompetitive and collaborating with (and investing in) companies with disruptive new and powerful value propositions in these areas, they will successfully navigate the transition to becoming an information age bank.
Taking the example above, already it is becoming clear that the traditional models for originating, underwriting and processing loans are no longer competitive. New models from companies like FundingOptions, Zopa, OnDeck Capital, Kabbage and many others are proving to be much more effective and economical. Traditional banks should be lining up to partner with companies like these and in particular become lenders and provide core transaction banking services, areas where they do have a real competitive advantage. They should also be leveraging their strong distribution channels to drive customers to these platforms in exchange for lead generation fees. Of course for the managers and employees responsible for these functions within traditional banks, the transition will be painful, ultimately their jobs will disappear. However, in any case, this outcome is inevitable as their value proposition and competitive position becomes ever more compromised.
By embracing change and working within the grain of this new paradigm, incumbent banks can do much to ensure their future success and survival and will find it much easier to rebuild trust – with customers, regulators and their communities – mitigating the short term pain and setting themselves on a path to sustainable profitability. The alternative is to keep doing the same thing and slowly but surely rust away. The best banking executives of tomorrow will need to be as familiar with APIs and SDKs as they are with APRs and RAROC.
Last week I was away with my family for a few days. In a location where there was no working internet connection and a very sketchy 3G signal. As a start-up founder with a never-ending to do list, this was quite disconcerting (especially as it was unexpected.) So aside from freaking out for a couple days, I had no choice but to catch up on both sleep (I hadn’t quite realized how big my sleep deficit had become!) and reading. Which ended up reminding me that disconnecting from time to time can pay dividends.
The Undercover Economist is a terrific account of how economics drives behaviors and his view on how a change in our underlying economic drivers is fundamentally undermining our existing (traditional) organizational and institutional frameworks particularly resonated with me:
…economists believe there’s an important difference between being in favor of markets and being in favor of business, especially particular businesses. A politician who is in favor of markets believes in the importance of competition and wants to prevent businesses from getting too much scarcity power. A politician who’s too influenced by corporate lobbyists will do exactly the reverse.
At the end of the book, he includes the introduction to a later book Adapt: Why Success Always Starts with Failure. He tells the story of a young Russian engineer Peter Palchinsky who challenged the top-down, hierarchical thinking of first Tsarist and then communist Russia over a hundred years ago:
What Palchinsky realized was that most real-world problems are more complex than we think…His method for dealing with this could be summarized as three “Palchinsky Principles”:
first, seek out new ideas and try new things;
second, when trying something new, do it on a scale where failure is survivable;
third, seek out feedback and learn from your mistakes as you go along
…Most organizations and most forms of politics have the same difficulty in carrying out the simple process of variation and selection…if we are to accept variation, we must also accept that some of these new approaches will not work well. That is not a tempting proposition for a politician or chief executive to try to sell…
…There is a limit to how much honest feedback most leaders really want to hear; and because we know this, most of us sugar-coat our opinions whenever we speak to a powerful person. In a deep hierarchy, that process is repeated many times, until the truth is utterly concealed inside a thick layer of sweet-talk…Traditional organizations are badly equipped to benefit from a decentralized process of trial and error…(yet) the more complex and elusive our problems are, the more effective trial and error becomes, relative to the alternatives. Yet it is an approach that runs counter to our instincts, and to the way in which traditional organizations work.
Building on these principles, he suggests the recipe for successfully adapting is comprise of three essential steps:
Try new things, in the expectation some will fail;
Make failure survivable, because it will be common;
Make sure you know when you’ve failed.
What you want to do as a company is maximize the number of experiments you can do per unit of time. -Jeff Bezos
Much as I enjoyed Tim’s book, I was blown away by The Connected Company. Simply stated, I suspect it will go down as one of the most important management books of the early 21st century. It is a remarkable treatise on the new optimal organizational framework for businesses of the Information Age. I’ll admit to some bias as I don’t think I could have written a more articulate or complete account of the philosophy and theory underlying our approach to building Anthemis.
We are reaching a complexity tipping point, beyond which organizations will not be able to succeed without a change in structure.
…And if the world is constantly changing, the only sustainable competitive advantage is to be the one most responsive to change. That means that the speed at which you can learn is the only thing that can give you a long-term sustainable advantage. The problem is that while today’s companies are very good at processing information and producing outputs, they don’t know how to learn.
Indeed the fractal (Dave uses the term “podular”) nature of how we are building Anthemis is a direct attempt to create a more adaptable – and ultimately more resilient – company fit for the challenges of the 21st century. By explicitly embracing a networked rather than hierarchical structure we have built in the ability to experiment and fail while at the same time giving us many more chances to succeed. Dave also highlights that this new type of organization is in essence a complex adaptive system and some of you might recall from previous posts and presentations that the work of Herbert Simon on this subject has had a profound impact on our thinking.
To design connected companies we must think of the company as a complex set of connections and potential connections, a distributed organism with brains, eyes and ears everywhere, whether they are employees, partners, customers or suppliers. Most importantly, a connected company must be able to respond dynamically to change, to learn and adapt in an uncertain, ambiguous and constantly evolving environment.
A connected company is a learning company.
We see Anthemis as a network, an ecosystem where our main responsibilities are (1) to articulate and evangelize a robust vision – re-inventing finance for the Information Age – and (2) to create a fertile environment where passionate, talented individuals, teams and companies pursuing various components of this vision are provided with the tools – capital, talent, connections – that materially improve their chances of succeeding. Anthemis as a city (as opposed to a traditional company) is another interesting metaphor for our approach that Dave also explores:
Taken together, agile teams, service contracts, composability and loose coupling allow the creation of complex service clusters and networks that operate in a peer-to-peer, citylike way. In fact, these kinds of “service cities” can sometimes be so complex that the only way to manage them is not to manage them. Instead, the company focuses on creating an environment within which they can thrive.
The key to creating a successful organization in an era of unrelenting (and often accelerating) change is to build for agility. However the traditional organizational structures that were so successful in the Industrial Age are fundamentally unable to respond to this challenge:
Many business systems are tightly coupled, like trains on a track, in order to maximize control and efficiency. But what the business environment requires today is not efficiency but flexibility. So we have these tightly coupled systems and the rails are not pointing in the right direction. And changing the rails, although we feel it is necessary, is complex and expensive to do. So we sit in these business meetings, setting goals and making our strategic plans, arguing about which way the rails should be pointing, when what we really need is to get off the train altogether and embrace a completely different system and approach.
Dave highlights Amazon.com as one of today’s leading companies that has already adopted many of the tenets of the connected company. He describes their approach as breaking big problems down into small ones; distributing authority, design, creativity and decision-making to the smallest possible units and setting them free to innovate. At Anthemis, we take this one step further as most of the teams focused on each of these “smaller” problems are actually companies in their own right with their initial connection into the Anthemis ecosystem being forged via a financial investment. Aside from our legal structure however, the important distinction between ourselves and a venture capital fund is our clear long-term vision of creating a new leader in financial services: the vision is the glue.
The way we think about it is, on those big things, we want to be stubborn on the vision and flexible about the details. -Jeff Bezos
Essentially our job (at the Anthemis Group node) in this context boils down to designing and building the structure and system that supports the people and businesses in our network and then operating that system. Further we have a key role in creating and supporting a broad and diverse portfolio of experiments in order to maximize our chances of discovering and building the best and most sustainable financial services businesses in a context of rapid technological change and an evolving competitive landscape.
And perhaps in a future updated edition of his book, Dave will be able to point to us as a great example of a successful “connected company”!
Power in networks comes from awareness and influence, not control. -Dave Gray
Update: In this video, Gary Hamel talks about many similar themes, highlighting that our existing management and organizational paradigms are 100 years old and increasingly anachronistic in a world of accelerating change.
The micro-cracks are turning into fissures, soon to be gaping crevasses as (finally) the obsolescence of our industrial age banking system plays itself out in spectacular front page headlines. Meanwhile it would seem that our society and our leaders are (mostly) frozen in some kind of macabre trance – eating popcorn and mesmerized by the inevitable Crash.
If you look at the LIBOR scandal in the context of the technology of the fast emerging information economy, it is absolutely mind-boggling that such an anachronistic process even exists in the world of 2012. In a world where every financial flow is digitized and only really exists as an entry in a database. In a world where truly enormous real-time data sets (ones that make the underlying data required for a true LIBOR look puny) are routinely captured and analyzed in the time it takes to read this sentence. In a world where millions (soon billions) of people have enough processing power in their pocket to compute complex algorithms. In a world where a high school hacker can store terabytes of data in the cloud. Â In this world, we continue to produce one of the most important inputs into global financial markets using the equivalent of a notebook and a biroâ€¦ WTF???
The rate at which an individual Contributor Panel bank could borrow funds, were it to do so by asking for and then accepting inter-bank offers in reasonable market size, just prior to 11.00 London time.
For each (of 10) currencies, a panel of 7-18 contributing banks is asked to submit their opinion (yes, you read right) each morning on what each rate (by maturity) should be. The published rated is then the “trimmed arithmetic mean”; basically they throw out the highest and lowest submissions and average the rest. No account is taken of the size or creditworthiness or funding position of each bank and the sample size after the “trimming” for each calculation is between 4-10 banks. However, the BBA assures us that this calculation method means that:
…it is out of the control of any individual panel contributor to influence the calculation and affect the bbalibor quote.
You don’t need to be a banker or a quantitative or statistical genius, or an expert in sociology, or even particularly clever to figure out that this is a pretty sub-optimal way to calculate any sort of index, let alone one that has an impact on the pricing and outcomes of trillions of dollars worth of contractsâ€¦
In the 1980s when LIBOR was invented – and (lest the angry mob now try to throw the baby out) it should be said an important and good invention – this methodology just might have been acceptable then, as the “best practical solution available given the market and technological context.” Banks used to have to physically run their bids in Gilt auctions to the Bank of England (thus why historicallyÂ banks were located in the City, tough to compete on that basis from the West End or Canary Wharf, at least without employees a few Kenyan middle distance Olympiansâ€¦) But you know what? Â And this is shocking I know…Â They don’t do it that way anymore!!!
So if LIBOR is important (and it is), how should we be calculating this in the 21st century? Here’s a few ideas:
include all banks participating in the market – and not necessarily just those in London – how about G(lobal)IBOR??
collect and maintain (in quasi-real time) important meta-data for each contributing bank (balance sheet size and currency breakdown of same by both deposits and loans, credit rating, historical interbank lending positions, volatility/consistency of submissions, derivative exposure to LIBOR rates, etc.)
collect rates and volumes for all realized interbank trades and live (executable) bids and offers (from say 9-11am GMT each day)
build robust, complex (but completely transparent and auditable) algorithms for computing a sensible LIBOR fixing arising from this data; consider open-sourcing this using the Linux model (you might even get core LIBOR and then forks that consenting counterparties might choose to use for their transactions, which is ok as long as the calculation inputs and algorithms are totally transparent and subject to audit upon request1)
This is not only possible, but in fact relatively trivial today. Indeed companies like the Climate Corporation*, Zoopla*, Metamarkets*, Palantir, Splunk (and dozens and dozens more, including newcomers like Indix* and Premise Data Corp) regularly digest, analyze and publish analogous datasets that are at least (almost certainly far more) as big and complex as the newLIBOR I’m suggesting.
Indeed, the management of this process could easily be outsourced to one – or better many – big data companies, with a central regulatory authority playing the role of guardian of standards (the heavy lifting of which could actually be outsourced to other smart data processing auditorsâ€¦) In theory this “standards guardian” could continue to be the BBA(the “voice of banking and financial services”) but the political and practical reality is that it should almost certainly be replaced in this role, perhaps by the Bank of England, but given the global importance of this benchmark, I think it is also worth thinking creatively about what institution could best play this role. Perhaps the BIS? Or ISO? Or a new agency along the lines of ICANN or the ITU -Â call it the International Financial Benchmarks Standards Insitute (IFBSI)? The role of this entity would be to set the standards for data collection, storage and computation and vet and safekeep the calculation models and the minimum standards (including power to subsequently audit at any time) required to be a calculation agent (kitemark.) Under this model, you could have multiple organizations – both private and public – publishing the calculation and in principle if done correctly they should all get the same answer (same data in + same model = same benchmark rate.) Pretty basic “many eyes” principal to improve robustness, quickly identify corrupt data or models.
As my friend (and co-founder of Metamarkets and now Premise Data Corporation) David Soloff points out:
If nothing else, this weekâ€™s revelations show why it is right for British political figures, such as Alistair Darling, to call for a radical overhaul of the Libor system. They also show why British policy makers, and others, should not stop there. For the tale of Libor is not some rarity; on the contrary, there are plenty of other parts of the debt and derivatives world that remain opaque and clubby, and continue to breach those basic Smith principles â€“ even as bank chief executives present themselves as champions of free markets. It is perhaps one of the great ironies and hypocrisies of our age; and a source of popular disgust that chief executives would now ignore at their peril.
Rather than join the wailing crowd of doomsayers, I remain optimistic. The solution to this – and other similar issues in global finance – either exist or are emerging at a tremendous pace. I know this because this is what we do here at Anthemis. But I’m clear-headed enough to know that we only have a tiny voice. Clearly it would seem that our long predicted Financial Reformation is starting to climb up the J-curve. I just hope that if Mr. Cameron does launch some sort of parliamentary commission that voices that understand both finance and technology are heard and listened to. Excellent, robust, technology-enabled solutions are entirely within our means, I’m just not confident that the existing players have the willingness to bring these new ideas to the table.
* Disclosure: I have an equity interest, either directly or indirectly in these companies.
1There may exist some good reasons for keeping some of the underlying data anonymous, but I think it would be perfectly possible to find a good solution whereby the data was made available to all for calculation purposes but the actual contributor names and associated price, volume and metadata were kept anonymous and only known to the central systemic guardian. Of course you’d have to do more than just replace the bank name by some static code, it would need to be dynamically changing, different keys for different calculation agents etc. but all very doable I’m sure. You’d be amazed what smart kids can do with computers these days.
Though your towers were tall
and your powers were grand
you could not understand
how you fell from great heights
and you burrowed with speed
a kingdom you did lead
from heaven to hell
– A Fistful of Swoon, Vandaveer
Excuse me if I seem a bit sarcastic but I can’t help but smile. Slowly but surely the masters of the universe seem to finally be waking up to the inevitability of the eventual obsolescence of the archetypal business model of 20th century banking. I’ve been talking about this for a decade and the fact that it only took, let’s seeâ€¦a gigantic global financial crisis and several years of messy aftershocks for these great and good to even start thinking about switching horses? Well, you just have to laugh because the alternative is simply too depressing.
I happened to be traveling a fair bit this past week, which for me means I actually have a few minutes of downtime to read the Financial Times (thanks to British Airways and the rules forcing everyone to turn off all electronic devices upon take-off and landingâ€¦) and stumbled upon three articles that caught my attention. First up on Tuesday was Hugo Banzinger – Deutsche Bank’s Chief Risk Officer – highlighting the fact that “Banks must regain investors’ trust” on the op-ed pages. Really??You think?
Banks have also remained remarkably silent on how they plan to adjust their business models. Lenders will have to demonstrate that their future business models are beneficial to society, that they can be run safely and that they are able to restore profitability to make them attractive investments again.
Many investors shy from investing in bank equity. Business models and future profitability are too uncertain. Restoring bank profitability is of utmost importance, requiring drastic actions. The standardisation of products and automation of process has to replace the tailor-made approach of many trading desks. IT investment costing billions will be necessary. The number of people on trading floors will have to drop to levels seen at exchanges. Salaries will have to normalise to levels comparable to other services industries. Capital intensive inventory for securitisation will have to return to its originators. Market making will have to be networked and back offices will have to adopt lean production methods as seen in modern manufacturing.
These changes will eventually lead to a process revolution of the kind we experienced in retail banking in the early 1990s.
The industrial revolution in investment banking is all about creating a new paradigm for the execution of capital markets business. It is about reinventing the organisational mindset, replacing the traditional front, mid- dle and back office with a highly flexible and efficient product factory attached to a profes- sional cadre of relationship managers and solution providers who work with customers and clients to tailor products and solutions to be produced and executed by the factory. It is about viewing the services we provide as two distinct value propositions, one resting on the creativity and knowledge base of the bank and its bankers, and the other resting on the efficiency and accuracy of production and execution.
Much is promised by banks in terms of â€˜putting the customer firstâ€™ and â€˜delivering solutions not productsâ€™ however the reality is that, even if this is the good faith intent, the current structure of the banks is still aligned to the delivery of financial products as a holistic package with all the ancillary bits (settlement, research, payments, etc.) thrown in to a greater or lesser extent. An essentially analogue model for an emerging digital world. The â€˜digitalâ€™ model breaks down all aspects of the business into dis- crete component parts and allows for each to be optimised (either in-house or out- sourced) and then packaged and delivered to the client according to their needs.
Through this industrialization of the process, the skills and functions of the bankers must equally realign, with expert designers, engineers and manufacturers on the production side, and state of the art customer service representatives on the other.
I guess I just must have been saying’ it wrongâ€¦
Next, a bit later in the week, the infamous Sallie Krawcheck – yes the former Citigroup CFO & Head of Strategy, former CEO Citigroup Wealth Management, former President of the Bank of America Global Wealth & Investment Management division – was also given a slot by the Financial Times editors to explain to us that “JPMorgan shows fighting complexity is futile”. Gee, is this complexity stuff a recent development??
But despite coming a bit late to the game, she nails it:
It is complexity that in good part defines Wall Street and forms some of financeâ€™s highest barriers to entryâ€¦In the main, the response from regulators to the perceived causes of the downturn has been to fight complexity with complexity.
Iâ€™m not suggesting that no economies of scale make sense in banking or financial services more generally, only that they are subsumed by complexity within these â€˜integratedâ€™ financial behemoths. I even have some sympathy for the seductive logic underlying integrated business models, however in my view the theoretical benefits of an integrated model â€“ while possibly intellectually robust on paper â€“ are impossible to exploit in reality. It ignores what I describe as corporate entropy: ie in any corporate process there exists an inherent tendency towards the dissipation of useful energy.
Indeed â€“ sticking with the chemical analogy and without writing a book about it â€“ it would be fair to say that giant bank mergers are at best an (intrinsically unstable) intermediate product in the reaction coordinate and to make any sense need to be followed by a subsequent division into multiple new end products (which individually release the benefits of economies of scale and synergy without the instability engendered by excessive complexity.) So Citigroup (or UBS or HSBC or RBS/ABN Amro, etcâ€¦) should naturally â€œdecayâ€ to form multiple specialist firms that are more focused and efficient than the multiple firms that had been combined first to form these giants.
Of course more regulations hurt the large financial institutions, but they hurt new entrants more. And competition is a whole lot scarier than regulation to incumbents. If you want to get a sense of this, you could do worse than reading Aaron Greenspanâ€™s take on US payment regulations http://www.moneyscience.com/pg/bookmarks/Admin/read/77403/held-hostage-how-the-banking-sector-has-distorted-financial-regulation-and-destroyed-technological-progress-pdf. And similar examples exist across the spectrum of financial services and across the globe.
The irony is that most financial regulations are born through the desire to protect the little guy from losses, and to some extent they achieve this on one (direct) level but following the law of unintended consequences, the result to often is to create an environment where far larger risks (and losses) are incurred at a systemic level. And who pays for that? Well as we all know now, increasingly itâ€™s all of us (including of course, the little guy.) Via government subsidies, interventions, increasing costs to maintain ever larger and more complex regulatory regimes, all of which need to be paid for with higher taxes and more importantly slower economic growth. Here the bankers are right, all these new regulations make our current system less able to produce growth which of course hits the 99% hardest. But then the bankers stop before asking for a level regulatory playing field that would pour fuel on the smouldering fire of new, innovative, disruptive entrants. Please Lord deregulate me, but not just yet.
But of course if you are reading this, you already know we’re working hard and investing big to help change this. And despite my slight snarkiness above, I am actually excited to see views I’ve held dearly for many years starting to be adopted by (some of) the leaders and personalities of the financial services establishment. (Indeed, Sallie if you’re reading this, I’d love to have the opportunity to tell you about Anthemis and compare notes on the future of finance. And good to see you on twitter. Welcome to the (financial) reformation!)
The third article was about Senator Sherrod Brown trying to revive new legislation is the US which would mandate a break-up of the megabanks. He states:
â€œI am confident that we will see the government over time requiring some divesting of assets because if [big banks] keep getting an advantage in the marketplace, and they keep growing and having a higher percentage of assets, itâ€™s basically a government-endowed advantage. Thank you, US taxpayers.â€
I wonder if we might eventually see something along the lines of the break-up of AT&T, a process that was initiated in 1974 but took ten years and lots of litigation before taking effect in 1984. However ultimately, the problem with banking is not just about size. In this respect, I have some sympathy for the banking lobby: creating 5 or 10 mini-JPMorgans or BoAs is not really the solution (although it could be an intermediate step.) Sheila Bair has also been making the case for smaller, less complex banks:
Yet instead of waiting for the government or shareholders to act, the leadership of these megabanks should take the lead in downsizing. The best way for Dimon to provide a better return to his investors is to recognize that his bank is worth more in smaller, easier-to-manage pieces. Let’s face it, making a competitive return on equity is going to become even harder for megabanks as their capital requirements go up, their trading and derivatives activities are reined in, and their cost of borrowing rises as bond investors recognize that too-big-too-fail is over. If, by downsizing, Dimon can achieve valuations comparable to the regional banks’, he will potentially release tens of billions of value to his shareholders.
More importantly, I think we will inextricably move towards a fundamental reconfiguration of the industry: away from vertically-integrated monoliths and towards an ecosystem or “stack” of firms focused on different components of the industry. The stack metaphor I think is particularly apt, not only because it is a useful conceit to describe the financial system but also because finance is essentially an information technology business and much useful inspiration can be taken from observing the evolution of the ICT industry as it moved from the mainframe to the internet to the cloud era. And it’s not entirely coincidental that I first presented these ideas at a telecommunications conference in 2009.
In such a world, it would not be inconsistent to have several megabanks with enormous balance sheets, but these would likely be very simple constructs – highly regulated and limited utilities, providing a basic deposit taking and liquidity providing function to the system. As I suggested in my AmazonBay video in 2005, the ultimate destiny of (the core) of the global megabanks might to simply become “giant regulated pools of capital.” Such banks would have relatively few employees, extremely robust but relatively limited infrastructure, and would make consistent but modest returns on their capital. They would sit towards the bottom of the financial stack, the financial equivalent of the massive (but usually faceless) data centers that run the internetâ€¦
As you might suspect, we have a number of ideas of how this reconfiguration might play out, and this thesis deeply informs our investment process and some aspects of it are already reflected in our portfolio, other aspects not yet but soon we hope. I was thinking of writing an article that would map out how we see banking services being organized in say 2022 but rather than give too many of our secrets away here and now, I think I’ll keep some of these in reserve for the moment. Especially since the industry seems finally to be starting to pay attention and I don’t want to lose our 10 year head-start on designing the future of finance as it makes my job so much easier! As William Gibson said, “the future is already here, it’s just unevenly distributed”.
Over the years he watched digital projects lose battles for research dollars. Even though film’s market share was declining, the profit margins were still high and digital seemed an expensive, risky bet.
He recalls efforts in the 1980s to drive innovation by setting up smaller spin-off companies within Kodak, but “it just didn’t work.” Venture companies in Silicon Valley are “pretty wild”, “in Rochester, people come to work at 8 and go home at 5.”
When disruptive technologies appear, there is a lot of uncertainty in the transition from old to new. “The challenge is not so much in developing new technology, but rather shifting the business model in terms of the way firms create and capture value.
These are just a few excerpts from a great piece “What’s Wrong with This Picture: Kodak’s 30-year Slide into Bankruptcy” from Knowledge @ Wharton that (inadvertently) does a terrific job explaining the context and gigantic opportunity that drove Uday and I to create Anthemis and it’s networked ecosystem approach to re-inventing financial services for the digital century. Let’s take each of these in turn:
< < Over the years he watched digital projects lose battles for research dollars. Even though film's market share was declining, the profit margins were still high and digital seemed an expensive, risky bet. >>
I lived this directly and in full Kodachrome color my last few years working for Dresdner Kleinwort, culminating in the creation and subsequent dismantlement following my departure (in 2006) of a new business unit in Capital Markets called Digital Markets. This was the brainchild of then CIO (of the year!) JP Rangaswami and myself, built on the basic premise that exponential technological progress was going to drive an entirely new optimal business model for capital markets activities (as opposed to simply enabling accelerating growth of the existing traditional business models which it had done so well for the previous two decades or so.) That technology, rather than simply being an (important) enabler of the business, was set to become the central driver and that accordingly we had an exceptional opportunity to get out in front of this disruptive change – embracing not resisting – affording us the once-in-a-paradigm-shift chance to fundamentally change (for the better) our competitive position. Further, we felt that Dresdner Kleinwort was ideally positioned in its mediocrity to seize this opportunity: we had much less to lose than the market leaders. (And as history shows, in fact the firm had pretty much nothing to loseâ€¦RIP.) But the problem was – and almost always is with large, established, publicly-listed companies – that the vast majority of decision-makers had significant vested interests in maintaining the status quo, and insufficient sensitivity to the downside. Classic agent/principal conflict. Turkeys just don’t vote for Christmas. It’s not rational for them to do so. This is a fact of life, not something really worth bemoaning.
< < He recalls efforts in the 1980s to drive innovation by setting up smaller spin-off companies within Kodak, but "it just didn't work." Venture companies in Silicon Valley are "pretty wild", "in Rochester, people come to work at 8 and go home at 5." >>
My experiences as a senior manager at Dresdner Kleinwort / Allianz led me to increasingly understand that there was a fundamental incompatibility between successfully managing a large incumbent organization and successfully nurturing dynamic, entrepreneurial, disruptive new ventures. I like to think of it as the corporate equivalent of Heisenberg’s Uncertainty Principle: just as one cannot simultaneously know the position and momentum of a particle, neither can one reap the advantages of a large-scale, established corporation and simultaneously drive and manage emerging, innovative new business models. (Call it Park’s Corporate Paradox?) And in the past 5 or so years since leaving the traditional corporate world, my empirical experience of working closely with start-ups (including starting one!) has only increased my conviction in what I now believe is a fundamental truth. Dresdner Kleinwort (and Paribas before that) – as old hands in the markets world will I hope attest – had positive reputations in the industry for their (relative) ability to innovate, to be at the forefront of new markets and ideas. I believe a key reason they were able to do this was actually because they were well, let’s just say “loosely” managed. They were anything but well-oiled machines. Which, frankly, if you are going to take best advantage of the benefits of being a large, established corporation, is what you need to be. The innovation that emerged in these organizations was a by-product of their relatively weak organizational structures. Put another way, if disruptive innovations are akin to viruses (which I think is not a bad metaphor) then these companies had relatively weaker immune systems (than their market leading counterparts like Goldman Sachs or JP Morgan for example.) However, that is not to say that they had no immune response, and ultimately the incumbent prerogative to maintain the status quo and protect the vital organs won out (in Paribas’ case accelerated by its acquisition by the more tightly managed BNP.)
< < When disruptive technologies appear, there is a lot of uncertainty in the transition from old to new. "The challenge is not so much in developing new technology, but rather shifting the business model in terms of the way firms create and capture value. >>
It’s not really about the technology per se, it’s about what technology allows you to do. Often I hear people describe us as “financial technology” investors, but at the risk of being pedantic, this is not really the case. We invest in people and companies that use technology to enable better, often disruptive, new business models. Businesses that seek to address the fundamental needs of their customers in new and better ways that were previously either impossible or sometimes even unthinkable without the enabling power of fast evolving information and communication technologies. It’s not the same thing. And although we invest in these new companies, we are not investors – at least not in the mainstream sense. We aren’t a venture capital or private equity fund. We are ourselves leveraging technology to create a new type of organization, one that we believe is highly additive to the existing ecosystem of large incumbents, start-ups and traditional venture and growth investors. Complementary rather than competitive.
Too often, the conversation around innovation is framed as big v. small, good v. evil and works against the grain of what we believe is the objective reality. We want to re-frame the conversation, work with the grain of the history and the market to help the various different participants in the (financial services) ecosystem leverage their innate advantages (and mitigate their inherent weaknesses.) And if we succeed in this mission, we are certain that we will create enormous value for our own shareholders along the way.
Networks not hierarchies
We believe that the most successful companies of the future – both large and small – will be the ones who embrace a network-driven philosophy and operating ethos. The vertically-integrated Sloan-ian corporation of the 20th century, so ideally adapted to the economy of the Industrial Age, will increasingly struggle to remain relevant in the environment of accelerating cultural and technological change the characterizes the economy of the 21st century Information Age. Large, sector-leading incumbents will need to become more self-aware of both their defensible strengths and core competencies and of their inherent weaknesses and blind spots, which includes the ability to manage disruptive change. They will need to purge all vestiges of not-invented-here mentalities and pro-actively support (both financially and commercially) wider, outside innovation networks while developing optimized methodologies for bringing these outside innovations into their organizations as they mature. And continuously remain aware of the always changing ferment on the edges of their competitive space. Small, cutting-edge start-ups will need to become increasingly good at leveraging existing infrastructures – not just compute and storage infrastructure – but distribution and industry specific infrastructures, or as John Borthwick of Betaworks points out, the best new disruptive innovators “do what (they) do best and outsource the rest.”
This new paradigm creates a significant opportunity for a new type of company to emerge. Companies that are natively optimized to act as a connective layer between the old and the new. Companies that are deliberately tuned to operate within the new network-centric economy. Companies that are explicitly built to nurture ecosystems of talent, technologies and products and services. Anthemis is one of these new companies – a “third place” so to speak – positioned between the established industry leaders and the emerging new innovators, acting as a sort of “translation layer” helping the former to understand and adapt to the changing environment and the latter to identify and focus on the biggest market opportunities while leveraging the core strengths of the existing industry infrastructure. While our focus is on financial services and marketplaces, I am certain this same opportunity exists across any number of industries or markets. Indeed, Betaworks – “A New Medium Company” is a good example of a successful emerging company with a similar positioning and philosophy but focused on the media space. If they don’t exist already, I am sure similar constructs would work well in other industries.
Often when I give presentations on our vision of the future of finance, I am challenged with the question: “But do you really think [insert favorite giant financial services company] will disappear?”, I am at pains to make clear that (a) I don’t know (b) it’s possible, though not necessarily likely, or will take a very (very) long time and (c) that it kind of misses the point in that one would hope that their aspiration is to thrive and not simply survive.
There are a number of different failure modes for established market leaders, most of which are relatively unspectacular and many that don’t actually result in the company disappearing. We remember the Lehmans, the Enrons and the WorldComs but thankfully these are actually the exception. The greatest risk for these companies is not catastrophic overnight disaster but a slow inexorable decline into irrelevancy or even bankruptcy. Big companies typically don’t blow up, they mostly just rust away. The actual speed of this decline often depends on the nature of the sector, it’s “installed” base and particularly it’s regulatory “relevance” in particular. Leaders in highly regulated and deeply embedded (in our economies) industries like finance and telecoms can survive for years and even decades by deploying their considerable resources to protect their position and slow (but not stop) their decline. But how much better off would their shareholders, employees and customers be if they instead marshaled these same resources in a more constructive direction, embracing their real strengths and acknowledging their structural weaknesses in order to evolve and succeed in our changing world, rather that just settling for survival? (Side note: this strikes to the heart of the principal/agent problem that plagues many big, listed companies – for the middle and senior management of these firms, simply ensuring their company survives is often a more than good enough outcome, requiring significantly less energy and psychological commitment while delivering sufficient financial rewards and positional prestige to meet or exceed their personal aspirations. I am not criticizing so much as acknowledging that human nature being what it is, that it is damn hard to resist such a path, even for those with the best intentions.)
The experts at Wharton note that “adapting to technological change can be especially challenging for established companies like Kodak because entrenched leadership often finds it difficult to break old patterns that once spelled success. Kodak’s history shows that innovation alone isn’t enough; companies must also have a clear business strategy that can adapt to changing times. Without one, disruptive innovations can sink a company’s fortunes — even when the innovations are its own.”
The world is changing. Financial services are no longer immune to these forces of fundamental change. Changing technology, demography and culture are unstoppable forces that if ignored will slowly but surely rust away the competitive advantages of traditional business models. Resist it or embrace it. But you can’t change it. It’s a bit scary sure but also incredibly exciting. Jump in. If you are in financial services, we can probably help.
It’s a better choice than waiting for your Kodak moment.
Financial institutions are already highly regulated and one could argue that at best, this has not achieved the desired outcomes and at worst has actually contributed to some of the most egregious behaviors as the clever folks in financial institutions lost sight of the end game (ie the products and services and customers that lie at the heart of their raison d’etre) and focused increasing amount of energy and talent to working the system.
And not unlike Br’er Rabbit fighting with the Tar Baby, getting stuck and then pleading with Mr. Fox not to be thrown into the Briar Patch, the large incumbent banks pleading with the regulators not to write more rules may just be a brilliant case of misdirection.
but do please, Brer Fox, don’t fling me in dat brier-patch
Of course more regulations hurt the large financial institutions, but they hurt new entrants more. And competition is a whole lot scarier than regulation to incumbents. If you want to get a sense of this, you could do worse than reading Aaron Greenspan’s take on US payment regulations. And similar examples exist across the spectrum of financial services and across the globe.
The irony is that most financial regulations are born through the desire to protect the little guy from losses, and to some extent they achieve this on one (direct) level but following the law of unintended consequences, the result to often is to create an environment where far larger risks (and losses) are incurred at a systemic level. And who pays for that? Well as we all know now, increasingly it’s all of us (including of course, the little guy.) Via government subsidies, interventions, increasing costs to maintain ever larger and more complex regulatory regimes, all of which need to be paid for with higher taxes and more importantly slower economic growth. Here the bankers are right, all these new regulations make our current system less able to produce growth which of course hits the 99% hardest. But then the bankers stop before asking for a level regulatory playing field that would pour fuel on the smouldering fire of new, innovative, disruptive entrants. Please Lord deregulate me, but not just yet.
Security theater is a term that describes security countermeasures intended to provide the feeling of improved security while doing little or nothing to actually improve security…Security theater gains importance both by satisfying and exploiting the gap between perceived risk and actual risk.
Regulators (and politicians) sensing the need to be seen to be doing something about the risk, fall into a trap of creating more and more regulations hoping to protect all of us from ourselves, only to create new (almost always) more dangerous and costly risks higher up in the system. Rinse and repeat. Until these risks reach the top of the pyramid and can no longer be shuffled and redistributed. At which time, they come tumbling down on all. This regulatory theater can be comforting in the short term but actually takes us further and further away from a sustainable solution to managing financial risks in our economies.
These risks exist and cannot be regulated away. Call it the 1st law of Financial Dynamics: the of conservation of risk. And I would postulate that pushed down to the base of our economic system, these risks would be easier and less costly to manage. With a more competitive and open system, with continuous renewal through many new entrants, the end users of financial services would get better (higher quality, lower cost) products and services with much lower risk of catastrophic systemic failures. Certainly – statistically – some of these new entrants would be managed incompently. Some would be frauds. People, customers would lose money. But the costs of dealing with these failures would pale in comparison to the multi-trillion dollar, economy-crushing losses that the existing system has allowed, nay encouraged to build up.
I’ll finish with an example, take UK retail banking. Concentrated, uncompetitive, legacy. No new entrants, no competition. Metro Bank, NBNK, Virgin/Northern Rock in my opinion are just shuffling deck chairs; better than nothing I would grant but essentially no real innovation, run in the same way with (mostly) the same assets, same people and same business models that previously existed. A token nod for the industry and the government to be able to say their is new competition (much as a dictator allows a hapless opponent to run in an election…) – window dressing. And even here, look at the hoops Metro Bank (who claim to be the “first new UK bank in 100 years”, QED…) had to go through to get a new banking license… If I were Cameron/Osbourne/Cable, the first thing I would do to start fixing the problem would be to create a new “entry” banking charter. Light touch. Basically just vet the founders and investors for fitness. Perhaps make them put up a certain minimum amount of the equity and/or guarantees as a percentage of their net worth. 90 days from application to charter. Nothing more. But restrict these new banks to say Â£50mn of assets until they have a 2 year track record (at which point they could apply for an increase in permissible assets and/or a full license.) Then oblige the large banks to open up their core banking infrastructure via APIs – analogous to obliging BT to make available their core telecom network to other operators.
I wouldn’t be surprised if within a year or two you had 30 or 40 new banks competing in various different ways, with many different (and differentiated) value propositions. And some would go bust. And some would be frauds. But even making the (ridiculous in my opinion) assumption that they all lost all of their customer’s money, and all of this money was insured by the government, we are talking about Â£2bn. Compare that to the direct losses of c. Â£23bn on RBS and Lloyd’s alone, not even considering the contingent losses and indirect costs born by the UK economy as a result of their predicament. Of course, I believe that many of these new banks would succeed and grow and any losses would be substantially smaller than Â£2bn. But none of these new banks would be too big to fail for a very long time (hopefully never) and although failure of even just one of them would attract headlines and aggrieved customers giving interviews on BBC1, especially if the cause of failure were to be fraud – it would behove us to put this into perspective. To not forget the difference between perceived and actual risk. To remember that huge failure even if diffuse and “no one individual could credibly be blamed” even if more psychologically comfortable, is actually much much more damaging than smaller point failures where cause and effect are more brutally obvious.
The world’s incumbent financial institutions are deeply mired in Christensen’s Innovator’s Dilemma, protected by regulatory barriers to entry that while not fundamentally altering the long-term calculus, have pushed back the day of reckoning only to make that day seem ever scarier. It might seem counter-intuitive, but I think we should be calling not for more regulation but for de-regulation of financial services (the real, robust, playing-field-leveling type and not the let-us-do-what-we-want-but-keep-out-any-competitors type). Competition is a far more robust route to salvation than regulation. Let a thousand flowers bloom.
Anthemis (Ãn-the-mis) is a genus of about 100 species of aromatic herbs in the Asteraceae… Nicknamed “the plants’ physician”, it seems to improve the health of other plants grown near it. (source: Wikipedia)
I was reminded the other day that I’ve never introduced Anthemis Group to the world. And our website, although not bad, definitely needs updating (we’ll get to it…) But in the mean time, I thought it might make sense to have a go at starting to explain who we are, our world-changing ambitions and our unique plan for achieving same.
As many of you know, I’ve spent much of the last decade thinking hard about how advances in information and communications technologies can enable a fundamental re-invention of business models in the financial services sector, and over the past four years I have focused my energies on figuring out the best way to go about catalysing the creation of new businesses that will drive and profit from this amazing opportunity. It hasn’t always been easy – advocating change never is – but ironically, the global financial crisis of 2008 was actually very helpful as it opened many eyes to the manifest weaknesses and diminishing returns of a financial system and actors that were finely tuned to operate in the “industrial economy” of the 20th century but poorly adapted to address the opportunities and challenges of the 21st century’s “information economy.” Anthemis has emerged out of this work and we are convinced that our approach is ideally suited to profit from the vast opportunity for disruptive innovation in financial services.
Our ambition is to build the worldâ€™s first â€œdigitally nativeâ€ financial services group: a group of companies and businesses uniquely adapted to profit from the emerging competitive landscape of the Information Age.
that an enormous opportunity exists to harness technology to fundamentally rethink how financial services are designed, consumed and delivered.
that a healthy, resilient and relevant financial sector is absolutely critical to the well-functioning of our economies and societies
that loosely-coupled networks and ecosystems (not hierarchies) are the optimal organisational forms in the information economy
that assembling and retaining teams of talented and passionate people is the key to building great businesses.
We’re not a venture capital or private equity fund, although clearly in some respects we share characteristics and often work closely with both; think of us as a fractal start-up – a company that deliberately seeks to connect and grow an ecosystem of complementary and vibrant new businesses by marrying patient long-term growth capital with expert operational and strategic advice.
In future posts over the course of the next several months, I will explore in more detail the themes outlined above and also dig deeper into both our operating model (we have three key operating pillars: principal strategic investments (anthemis | holdings), corporate advisory (ft advisors) and an innovative specialised expert consulting network (anthemis | edge)) and our investment framework (see if you can reverse engineer it by looking at our existing portfolio!) But today, I want to finish by highlighting a great post by Stowe Boyd (which inspired the timing of this post) titled “More Like A City Than An Army.”
In recent appearances, I have used a certain example to make a case about the openness in businesses of the future, contrasting todayâ€™s organizations with cities. â€˜You donâ€™t have to ask if you want to move to NYCâ€™ I say. â€˜You just show up, and start doing your thing, interacting with people, renting a storefront, buying things.â€™
â€˜Imagine a business where you can just show up and say, I want to work here. And youâ€™d be engaged in the workings of the business by making connections with people.â€™
When I read this, it was immediately familiar: it resonated strongly with some of our thinking on how to best manifest the fourth principle above and indeed our business model in many ways adopts a somewhat analogous approach.
Cities exhibit superlinear performance, unlike businesses which are sublinear. As new employees are added to a business, performance decreases per employee. Cities are the only human artifact that break this trendline: they increase in productivity as more people move in.
So, business should aspire to take on the characteristics of cities â€” to the degree feasible â€” to break past sublinear performance.
Think of Anthemis as a city. Of our portfolio companies as neighbourhoods. And of our anthemis | edge business as municipal services and resources. The metaphor isn’t perfect of course but our structure and approach is indeed designed to achieve the superlinear performance Stowe alludes to. Before you get too excited, we’re not (yet?) in a position to let people “just show up and say, I want to work here”; I think reputation and trust filters – albeit not necessarily (just) the traditional ones – are relevant, but in terms of our starting bias, I’d say our philosophy is more in tune with this approach than the traditional talent paradigm. After all, why wouldn’t we want to embrace talented, energetic, self-selecting people. To be fair, Stowe acknowledges this potential problem and offers a potential solution:
Of course, the company would have to be organized in a vastly different way. People could â€˜workâ€™ at such a future Apple by just showing up, but they might have to convince others to let them participate on projects, or get an idea funded, or change a productâ€™s features. (my emphasis) Weâ€™d have to have a wildly different notion of â€˜managementâ€™: one that would be fully distributed in some way.
This theme is an aspect of what I call messiness-at-scale: for companies to go superlinear, they have to drop all plans to keep things tidy, and accept a state of near chaos, out at the far edge, where the power curve of innovation, creativity, and resilience is at its strongest.
Indeed, the biggest issue I see with a completely open-door policy is one of protecting the reputation and integrity of the firm – (which is really just the community of people associated with it.) Basically, the NAA (no assholes allowed) rule. But the fabulous thing is that in today’s world, it has never been easier to run this filter. Globally. Using both traditional social (old boys’) networks sure but also and much more excitingly (and more scaleable) by using the vast array of digital tools (Twitter, LinkedIn, Quora, Namesake, blogs, etc…ergo PeerIndex, an Anthemis company!) to build up a picture of a person’s authenticity (who they are, what they believe in, what they know and how passionate they are… (Which of course highlights how crucial it is to nurture and maintain a robust digital identity, something that is anathema to most of the corporate leaders of today…)
And if we can solve the reputation / authenticity issue, this just leaves the issue of how can you afford to pay people who “just show up.” We don’t have a fully-formed answer to this yet, but a starting point for thinking about this is: you don’t. Or framed less controversially, you provide them a substrate upon which they can ultimately earn their own way and in parallel you provide a framework by which the firm and its people can invest risk capital (time and money) into the new joiner to buy them the runway they need to become “cash flow positive”.
If this sounds similar to the general approach to financing entrepreneurs and start-ups it is not by accident. Investing in people or investing in groups of people working together on a project are fractals of the same problem set. A cynic would argue that this is just semantics and that what I have proposed aboveis effectively what any company does when it hires a new employee – essentially committing risk capital on the future expected productivity of that person. Sure, perhaps. But by making this social contract explicit – by devolving the process – making it bottom-up, emergent; not top-down – I am convinced that the resulting relationship is very different (and more robust, honest and mutually beneficial.)
So we’re working hard on putting the substrate and framework in place that will ultimately allow Anthemis to welcome all the talented, passionate, self-motivated people out there that share our vision and want to direct their energy towards building a digitally native financial system fit for the 21st century. We’d love to hear from you if you think you can help (but just remember we’re a start-up too, so please indulge us if we’re a bit uneven in our ability to engage, we know we have room for improvement in this department.)
“You never change things by fighting the existing reality. To change something, build a new model that makes the existing model obsolete.” – Buckminster Fuller
I woke up reasonably early this morning with a long list of things to do today. Â But given that it’s Saturday, I thought it’d be ok to start slowly with a cup of green tea and a few minutes with one of the many as yet unread books beckoning from the coffee table. Â So I picked up Hugh MacLeod’s“Evil Plans: Having Fun on the Road to World Domination”. Â I first met Hugh about 6 or so years ago via my friend JP, and was immediately charmed by his great cartoons and unique and brutally insightful characterisation of the “corporate world.” Â Sort of a grown-up’s Scott Adams…
About 5 years ago I read Po Bronson‘s “What Should I Do with My Life?” and it made an impact. Â Not too long after I ended up leaving a long and pretty successful career in investment banking to take a new path – one that has led to the creation of Anthemis Group and to moving our family to Geneva. Â If you aren’t sure you are living your life the way you’d like to, as a first step I’d say read this book. Â If nothing else Po is an entertaining and engaging writer and I’m sure you’ll enjoy the stories he tells.
As long as you feel inspired, your life is being well spent.
Hugh’s book took only an hour to read, but it brought back into laser focus the real reasons for which I chose the path I am now on. As he states – and all entrepreneurs know – there are a lot of times when it just seems overwhelming. But he also reminds us that that is where passion and purpose come to our rescue. Without these, we are doomed to fail. With them, we succeed even in failure. Â Buy it. Read it. And keep it close to your desk to lean on in those moments of doubt.
I haven’t had much time to write in the last few months, part of the unavoidable occupational hazards of building a business and a company, but I felt almost obliged to comment on the latest round of major financial exchange consolidation as the author of the 2005 “Amazonbay” video…
So what was my initial reaction? Completely underwhelmed. The question that immediately popped into my head was: “Is that it???” Is that the most exciting, most optimal path to future growth that these management teams and their armies of advisors could come up with? And if so, what next? Even theoretically, only one more iteration of the global consolidation game exists and I’m not sure anyone would really advocate for a monolithic NYSEEuronextDBCMESGXetc… So the question that still will haunt the new, bigger boardrooms is not answered but only postponed: whither future growth in an increasingly commoditized business??
Don’t get me wrong, it’s a hard question. I don’t have an answer either. But you won’t be surprised if I suggest that it is probably to be found in thinking about post-consolidation de-consolidation aimed at creating new companies focused on various horizontal layers in the stack. Indeed, if the only path possible to get to a very small handful of global core exchange platforms was this flurry of mergers, then perhaps it was not all in vain. I would accept that in this layer of the “exchange stack” there is truly economies of scale, much as for instance with core communication infrastructure.
But then I would suggest that management of these platforms then needs to focus intensely on dis-investing themselves of other layers of the stack where economies of scale are less in evidence or absent completely. I don’t want to be cynical but giving the combination of normal 20th century management dynamics (bigger is better) and the particular emotio-political aspects of the exchange business, I would be very surprised to see anything like this happen. If I were a shareholder of any of these companies my fear would be that any of the advantages that arise from these combinations are ultimately subsumed by the disadvantages engendered by complexity (in every dimension.)
Giant financial exchanges – like the giant banks – aren’t going to disappear overnight. Possibly never. But to frame the debate in this “new” vs “old” / “mammal” vs “dinosaur” context is to miss the point. There are dozens of good (and some less good) reasons why these incumbents will be very hard to dislodge, and to focus on this – while potentially entertaining – skirts around the really interesting question which is to ask: where (and by whom) will value be created in digital transaction execution and management over the the next decade or two?
I don’t envy the management teams that lead these exchanges – they are forced to operate in a highly constrained political and cultural space and having fairly recently lived through the golden age for their traditional business model would seem – at least in the short term – to have huge asymmetrical downside in terms of the world’s expectations for them. Not fun.
There are some very interesting opportunities for these giant trading platforms in the years ahead. I just think that things will have to get a lot worse first before the management of these firms are in a position to act on these opportunities and think laterally. Or should I say horizontally!
Last week I spent the week in Amsterdam at Sibos 2010 where I had kindly been invited by Peter Van der Auwera to participate in the Innovation stream, and in particular in the Cloud Computing and Long Now streams within Innotribe. Â On Monday, I gave a short “scene-setting” talk on cloud computing and app stores in finance called The New Financial Stack (more on this / link hopefully later this week) and also I agreed to produce a video aimed at provoking and/or inspiring some original and non-linear thinking about the future of finance. Called “The Financial Reformation”, it sets the scene for two decades of fundamental change in the financial services industry based on the amazing democratising power of information technologies. I hope you like the result:
But as you might suspect if you have watched the video, this is just a start… Indeed, this initial video could be considered as simply the trailer for a longer form video which will look at the period from 2008 to 2028 in more detail; similar in some ways to the AmazonBay video of several years ago. The first draft of the script for this story is already written but I am very keen to build on and enrich it, not only with the fascinating concepts and insights that I absorbed in the Innotribe sessions at Sibos last week, but also – insofar as anyone is interested – with comments and ideas from the wise crowd of Park Paradigm readers. I’ve got a few ideas as to how best to go about this, and plan to post these later this week or next, but in the mean time if you would like to share your thoughts, please feel free to comment below.
ps I’d like to give a special thanks to the amazing team at Motherlode who were instrumental in turning my ideas into reality and who worked tirelessly to deliver the video in time for the world premier at Sibos; Â I’d also like to thank and congratulate Peter, Kosta and the rest of the Swift Innotribe team for what was simply an incredible four days. Â I hope Swift gives you the recognition you deserve!