Surfing the wave of fintech innovation

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Unless you're bartering furs to sustain yourself in some wild corner of the world, you are afloat in the massive technological disruption sweeping the financial services industry. It's obvious as you swipe your card at the supermarket or check your bank balance on your phone. 

And clearly, there's much more to come. From household names like Visa and Paypal, to newer players like Afterpay and Xero, the sector is evolving rapidly. The pace of change can be alarming. 

But alert investors can't help wondering how to take advantage of these opportunities. Kanish Chugh from ETF Securities explains in this video how a thematic approach can give broad exposure to the world of fintech.


Transcript

What is the fintech theme and why is it an interesting opportunity?

If we break it down, fintech is essentially finance and technology. And fintech companies, they're bringing cutting-edge technology innovation to an industry of financial services and the financial industry which really hasn't had much disruption for many decades. It's been around for centuries. To be completely honest, finance and the payments of goods and services has been around for centuries, but the disruption of that has really only come to the fore in the past five, 10, 15 years.

Now, what we're seeing is the ruffling of feathers of incumbent traditional institutions such as the banks, traditional insurance companies, wealth managers, for example. In ETF Securities, or ETFs, that's a form of disruption that we've seen in the past 20, 30 years that's disrupted the wealth management space. And so the idea behind fintech is to make financial services cheaper and more efficient for the end consumer.

What are some of the drivers behind the fintech thematic?

What we're actually also seeing is this adoption of certain themes, of why it's an interesting opportunity. Because as we've got this idea of going cashless or the boom of digital payments, or the use of technology – whether it's data, cloud computing, devices such as smartphones – all of this is evolving itself into an area where within financial services, there's much space for more disruption. And we haven't even touched on Blockchain, for example. That in itself is really potentially one of the biggest disruptive themes within this space.

I touched on just now on some of the drivers of the fintech space. One is technology. Advancements in technology, whether it's software, whether it's hardware, so faster processing chips allows for faster processing of data. Or the fact that we've got smartphones now, that allows for digital payments. You've got point-of-sale systems that are connected to the internet. They're quite small, they can be used utilising the transfer of data as well. So data, cloud computing, all of these things.

Technological advancements is going to be one of the biggest drivers. We're only at the tipping point, really, of that technological advancement. We're seeing much more innovation in that space. If you see innovation in other areas, that's going to start to transcend into the financial services space and be utilised in different ways.

Another big driver of disruption in this fintech space and why it's an important thematic is regulation. Post-2008 financial crisis, what you actually saw was a lot of that tier-one capital requirements. Basically, a lot of the traditional banks, it became harder for them to provide loans to riskier clients, from their perspective. So that riskier loan, the risky loan book, basically.

Now, what does that mean for the fintech companies? Well, it created an opportunity. Companies like Afterpay and Zip, were all launched in the past 10 years, post the 2008 financial crisis, because they saw a gap in the market to provide loans that weren't being serviced by traditional banks.

And then the last one is the bureaucracy or red tape that you see in traditional institutions. A company like Commonwealth Bank, to get moving on say, technology that say, Square has in terms of their point-of-sale systems. That can only be done when you've got a nimble tech startup or a tech environment or a company that is quite flexible in its ability to launch and innovate.

And some of these traditional institutions or traditional firms, aren't able to do that. And they've come out and said that themselves, that some of these opportunities that some of the fintech companies have pursued, they looked at, they thought about, they were either too slow or they decided to focus more on their core business.

How sustainable is this theme and what are some of the areas of growth/opportunity?

There's definitely longevity in this theme, because we're only at the start of that disruptive space. I'll touch on Blockchain in a minute, but things like cashless society, the Amazon effect, which we're really seeing because of Covid. A lot of us are working from home, we're having to not use traditional cash in the way in which we would. We're only at the tipping point in terms of that, especially in the developed world. In certain developing countries, such as India, they're much more further advanced in terms of using a cashless society because of the adoption of technology. There's still a lot of growth in that perspective.

What about in terms of wealth? So the wealth management space, we talked about ETFs being a disrupter in itself, but robo-advice. Again, here in Australia, you're still at the early stages of the use of robo-advisers or low-cost brokerage platforms such as the Robinhood model. There's still a lot of innovation to be done there.

And then you think about the use of cloud computing or big data. Now, the idea of big data and sort of the data mining and data analytics and the processing of data, that really has helped industries or sub-industries such as the index managers, which obviously ETFs rely on. It's also helped companies like Xero, for example, to really revolutionise how we do business from an accounting perspective.

And then you look at Blockchain. And Blockchain in itself is going to be one of the biggest disruptive themes within the fintech space. And not only just in the fintech space, but across other industries. The idea of tokenisation. When we talk about Blockchain, we think cryptocurrencies. It's more than that. And I think that's where you're going to see a lot of this continued growth and the driving in terms of this fintech space.

How will you implement the strategy? For example, how many underlying positions?

It's a global ETF in terms of company exposure. It's going to have 75 names.

What is the ticker, when will it be available and where can people access a product disclosure statement?

The ETF is the ETFS Fintech & Blockchain ETF. The code is FTEC, or F-T-E-C, it stands for fintech. And it tracks the Indxx Developed Markets Fintech & DeFi Index. It essentially looks at 75 companies across a number of different sub-themes. They are things like decentralised finance or Blockchain, digital payments. Companies like Afterpay would feature in there. Financial data providers and analysers, financial enterprise solutions, peer-to-peer lending, point-of-sale systems, trading and capital markets. Companies like Virtu or Flow Traders, who are market makers that help facilitate ETF trading.

These are 9-10 different sub-themes that we've identified within the index to look at in terms of fintech. We're wanting to look at it from this perspective of saying, "When you talk about thematics, you want to back the thematic. It's very hard to sometimes find the best firm within the thematic. And even within this space, there's so many different little sub-themes within this area."

What we want to do is provide a really broad view on the fintech theme and the Blockchain theme. In terms of those 75 companies, it will be equally weighted as well. And again, from that perspective, we're talking about disruptive firms. If you were to tell someone, "I'm not going to include Afterpay, because it's not a company that I would have backed three years ago or four years ago," you'd probably be laughed out of the room right now. But that's because it maybe wasn't the biggest company in their sort of space.

What we're wanting to say is we want to target the themes and look at the biggest companies within those themes, and the easiest way to do that is through this approach. The other thing just to note on the index, it looks at it from a perspective of revenue purity, and also looking at it across different countries.

So it does have Australian names in there at the moment, that being Afterpay and Xero, but there is a global view on the index.

How have you determined which stocks meet the criteria for inclusion and what are some examples of the stocks the ETF will hold?

In terms of some of the bigger names, there are companies like Visa and PayPal. PayPal, it's one of the biggest winners in terms of online shopping, but it essentially owns this whole sort of environment in terms of online shopping. It's helping the businesses launch their platforms, in terms of e-commerce platforms. It also helps facilitate the ability of payments. The Venmo product is a PayPal product.

Companies like Visa. Again, that is a company that will feature in this particular ETF. But then you look beyond that. We also talked about Afterpay, but you then talk about Square. Square is a point-of-sales company. In essence, it provides a point-of-sale software and hardware free to its businesses. It's why it's pretty much grown as quickly and has increased its footprint as quickly as it has, because of that idea.

But then in terms of looking beyond those traditional companies, you look at, say, Black Knight. Now Black Knight, essentially it looks into the mortgages world. So it looks at the use of data processing and data mining and providing banks and also households the ability to analyse mortgages, household values, the credit files and credit risk and credit ratings of potential borrowers.

And this is, again, an area in which we sometimes forget about. We always think fintech is Afterpay, fintech is Visa, or fintech is those companies. It's more than that. And another company, for example, we all know well now is Coinbase. Now, Coinbase is in terms of that Blockchain or crypto exchange. And again, that will be a company that will feature within this ETF.

How liquid are the underlying holdings?

Within that index, you have certain liquidity rules. Within this index, for a stock to get featured in, it has to have a minimum market cap of US$500 million. It has to have a six-month average daily turnover greater than or equal to US$2 million as well. So very liquid. It's not something, as an ETF provider, we want to launch a fund that we can't buy the underlying or sell the underlying stock and have liquidity risk involved.

What is the fee and how does this compare to similar products?

The fee is 0.69% per annum. Now that fee is in line with what other thematics are charging and costing. I guess, for the consumer, for investors to understand, a lot of that cost goes into the index construction and also the trading and the managing of the underlying portfolio. It's not just looking at Australian names, it's looking beyond that – the global companies. There's other costs involved in terms of managing the fund.

Where would this ETF fit within a broader investment portfolio?

Where we see this ETF fitting within a portfolio is as a complement to, or a satellite component for investors. What people need to understand, it is a thematic. It has a growth tilt to it. It is for investors that are on that risk spectrum in terms of how they're looking at their portfolio.

Now, this could also complement traditional names that they may have. They already may have some of the big banks within their portfolios, from an Australian perspective. They may have Afterpay, They may have all of those companies already. It's not going to be a complete overweight or overlap to those existing exposures. So it can complement those traditional financial services companies that they may have exposure to, or even complement traditional broad market exposure, such as the S&P 500 or the Nasdaq-100 or things like that. In terms of broader exposures, it will complement their existing portfolios.

What are some of the risks investors should know about this ETF?

With any ETF, investors need to, we say, "open the hood". They need to look at understanding what are the underlying exposures and make sure that they are aware of any overlap that may exist. For an investor that doesn't want to expose to certain companies or doesn't want that overlap, be aware of what that is.

The other risk that people need to be aware of, obviously, with any ETF, there is liquidity risk. We try to put safeguards in place at the index level. We've worked with Indxx, who are the index manager on this. And I guess that the other risk is just making sure you do your research, understand, is this the right product for you? There is a growth element to it, and with thematics, it needs to be viewed in that way.

What you want to view, when you look at thematics, it's a long-term view. It is a megatrend. It's a multi-decade view of where this sits. It's not a short-term trend; it's not a fad. So there may be periods of volatility, there may be periods of underperformance relative to broad markets, but that is because this area is an area of high disruption. And so taking that into account, look long-term when investing in portfolios such as these.

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In the first video of this series, Kanish discusses megatrends and how to play them. In the second video, he touches on semiconductors and how they present a compelling investment opportunity. In the third video, he discusses Hydrogen, the 'swiss army knife' of decarbonisation.

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