Fintech. Disruption. Transformation. The hyperbole surrounding the technological leaps in the financial services industry (among others) is gathering apace. Globally, institutions such as traditional banks, investment banks, brokers and securities exchanges are embracing the future and investing heavily in fintech – money, time and personnel.
Technology start-ups are emerging to take advantage of this zeitgeist and reaping the benefits of corporates and venture capital spending large. Accenture’s 2015 report The Future of Fintech and Banking: Digitally disrupted or reimagined? reported that global investment in fintech ventures tripled to US$12.21 billion in 2014.
One technology in particular is creating an increasing buzz – blockchain.
Blockchain technology enables institutions to securely trade and transact with each other directly, no middle-man. In theory, this should mean significantly reduced costs and speedier transactions. It potentially has more complex applications, both within financial services and other sectors.
It has the financial world very excited – so excited that Visa Inc. recently led a $30 million round of investment into one blockchain company.
Interviewed by Forbes magazine, NASDAQ Chief Executive, Bob Greifeld said, ‘[Blockchain] is the biggest opportunity set we can think of over the next decade or so.’
More locally, ASX chief executive Elmer Funke Kupper said of blockchain at last week’s results announcement, "We don't know where it is going to end, but we know it starts right here right now, in the ASX in Sydney, because we think we should lead the world with this – and know we can."
In the same way the internet revolutionised stockbroking, is blockchain the next big thing to revolutionise the financial services industry?
What is Blockchain?
A quick blockchain 101 for the uninitiated. Blockchain was originally created by Satoshi Nakamoto (an alias), the man (or woman) who created the cryptocurrency bitcoin. Essentially, it’s a shared public ledger on which all Bitcoin transactions are recorded and verified. Each transaction is a block, which is linked to other blocks to form a chain…hence the name.
The blockchain concept has a myriad of applications outside of bitcoin, but would operate in a similar way; in other words, as a database for recording transactions, one that is copied to all computers in a participating network. Because of this structure, blockchain is sometimes referred to as a ‘distributed ledger’.
Each block contains two key components:
- The header, which includes metadata such as a unique block reference number, the date and time the block was created, and a link back to the previous block
- Content, which might include transactions made, amounts and the parties to those transactions.
Because all blocks are linked together in the chain, a blockchain database retains the complete history of all transactions made; this makes its data verifiable, independently auditable and apparently bullet proof…and of great interest to a range of financial services organisations.
Blockchain and the ASX
The first securities exchange to get excited about the potential of blockchain is the ASX, which in January 2016 spent $14.9 million on a 5% equity stake in US-based blockchain start up, Digital Asset Holding.
As part of a deal with the government to extend the moratorium on competition in clearing and settlement services, the ASX has undertaken to replace its CHESS system with one that will streamline services and reduce costs for investors (after all, Australian investors pay nearly the highest clearing costs in the world). See Rick Klink's blog "Why ASX's monopoly on Clearing is hurting our financial services industry."
"The ASX believes this technology can potentially result in near real-time settlement of trades"
Digital Asset will develop a blockchain solution that will run in parallel with CHESS, to allow all stakeholders to assess the benefits (and any downside) of the new system, before a final decision is made in 2017. Both parties will work closely with a range of stakeholders and regulators to ensure the CHESS replacement meets the regulatory, operational and security standards that market participants expect.
The ASX believes this technology can potentially result in near real-time settlement of trades, reduce back-office and compliance costs, streamline the fulfilment of AML requirements and provide an improved audit trail for regulators. Investors should benefit from faster settlement of equity transactions and streamlined tax reporting.
Sounds good doesn’t it? Funke Kupper certainly thinks so.
"We feel good enough about this technology to see if we can build the real thing," he said last week. "For us, it is an opportunity to unleash a whole new level of innovation in our business and in the fintech sector."
Securities exchanges worldwide will be watching with interest.
‘[Blockchain] is the biggest opportunity set we can think of over the next decade or so.’
There were plenty of doubters when the internet first launched. At the same time, a flurry of dot com businesses exploded onto the investment scene in the 1990s, grew exponentially and every second taxi driver had a tech tip. Tech was the big investment opportunity…until it wasn’t. On 10 March 2000, the tech wreck began. The tech-laden NASDAQ fell from its all-time record of 5048.62 to 1114.11 by the end of the bear market, a 78% drop.
In a similar way, blockchain start-ups are proliferating and being touted as the next big thing. Call me a sceptic, but I suspect a few investors might do their dough following the herd.
Having said that, Boston-based Aite Group released its ‘Top 10 trends for 2016’ for wholesale and retail banking payment systems. Blockchain was trend number five and three respectively.
There is no doubt that blockchain has potential for wide range of applications in financial services (and beyond). As a range of institutions race to grab first mover advantage, many will watch with interest. The first successful implementation will be the litmus test.
It all began with bitcoin, so what of that? According to Goldman Sachs, “Bitcoin was just the opening act, with the blockchain ready to take centre stage.”