Translated into English. Original article published in the “Neue Zürcher Zeitung” on 12.09.2019.
Much is changing in the world of digital finance. But one thing remains constant: the core demands of the wealthy. They have stayed the same. So why are wealth managers still facing a fundamental change? Quite simple: even though we are experiencing one of the biggest booms in financial markets, the industry is making less and less money. The problem is the cost-income ratio. Costs are structurally far too high and too rigid in comparison to revenues.
A glance at business with new clients underlines this observation. Wealth managers are successfully reporting increases in assets under management. But which firms really manage to recover the acquisition costs within a reasonable amount of time? Not too many! The average payback period for a wealth management client is currently beyond 20 years, assuming full cost accounting. This, and not the contribution margin, is relevant for the assessment of a business model. Therefore, it is unlikely to bring new clients into the profit zone. In other words, banks are heavily dependent on their long-standing existing clients, a segment that is, however, increasingly aging. Not a very bright prospect for the industry!
The structural challenges are obvious. First of all, production costs are too high. As in other industries, digitalisation is also decreasing marginal costs, to a degree comparable to when craftmanship experienced such a disruption upon the invention of the steam engine. Its prices got crushed under the pressure of massively increased productivity and competition. It is no different to what we are experiencing in Wealth Management today. Premium pricing can no longer be maintained with conventional products. Furthermore, in the age of commission-free trading, transactional pricing models have become obsolete.
Digital channels continue to accelerate competition. Two effects are centre stage. Firstly, the information asymmetry between client and investment adviser is largely being eliminated thanks to the democratisation of access to information. Secondly, clients have been able to obtain traditional banking services directly via the Internet and smartphones for quite some time. As an example, Vanguard, a giant in asset management, has been competing head-on with the Wealth Management arms of banks. Even if traditional providers are not directly losing clients, there is a margin erosion. Vanguard and similar providers are the price leaders on which demand is based.
Consequently, traditional value chains of Wealth Managers will be disintermediated by independent asset managers sooner or later. If additional competitors enter the market, such as platform giants, it is foreseeable that not only the retail business, but later also the premium segment will undergo a fundamental transformation.
Upon digitalisation, new value chains emerge – deconstructed or reconstructed. This development will be further accelerated by the possibilities of cloud technology. In the digital world, today’s processes, combined with the specific skills of conventional banking, can be integrated in real time into individual, i.e. customized, value chains without any significant marginal costs. After all, the modern investment business is based on data and no longer on a pleasant conversation between client and advisor over a cup of coffee with some (Swiss) chocolate.
Who will triumph in this new digital world? The very big ones who can exploit economies of scale. And specialists who offer services that really set them apart from the others. This includes the field of “alternatives” with exclusive access to investments with active management and thus also justifying a fee. However, most of these investment opportunities are only available to an exclusive group of clients. Ordinary people can hardly invest in alternatives because regulators have set high hurdles for investor protection reasons. This path is therefore ruled out as a strategic solution in the private client’s business. What remains are a differentiated service and a differentiated investment advisory offer, which determine success. But the associated costs can no longer be passed on to the client.
What today’s Wealth Managers certainly do not require is a digital strategy. What is needed is a strategy that lives up to a digital world in which everything from client-bank interaction to the production of services is permeated by it. There is nothing more to be had with a classic investment portfolio. Thanks to full automation, a 10-Swiss Franc-per-month saver receives the same portfolio quality as a high-net worth private banking client. If you are not Blackrock, Vanguard or a similar asset management giant, then there is only one answer: deliver more service and advice, at lower prices. Because ‘digital’ does not mean self-service offers or digital distributions, but better service and performance at a lower price.
In addition to a radical focus on a differentiating offer, the focus should be on sales and client proximity. Only highly professional marketing, a corresponding lead & prospect management as well as superior sales management are vital. And of course, it is more and more in the digital world where potential clients are to be found.
Positioning is one thing, the other is cost, which must be dramatically reduced. To increase efficiency and productivity, there is realistically no way around Cloud solutions. They reduce IT costs and enable global purchasing and cost-effective integration of third-party services and providers. Doing everything yourself has become far too expensive and is not differentiating enough. The solution lies in a new operational model with a combination of acquisition, automation and focus on differentiating in-house services.
Digital technologies are not the strategy, but a strategic necessity for anyone who wants to be able to offer clients the best possible services across all channels at an attractive price. And they are increasingly indispensable to reach new clients and create long-lasting relationships.