A race to the bot­tom: Tech­nolo­gies are dis­rupt­ing in­vest­ment in­dus­try

Northern News (Kirkland Lake) - - BUSINESS - MARTIN PEL­LETIER

“Com­pu­ta­tional power isn’t just chang­ing the old lit­era­cies of read­ing and writ­ing. It’s cre­at­ing new ones.” – Clive Thomp­son, Smarter Than You Think

There is no hid­ing from tech­no­log­i­cal dis­rup­tion these days which has spread quickly into ev­ery sec­tor from health care, oil and gas, con­sumer dis­cre­tionary, real es­tate, bank­ing, in­sur­ance, le­gal, ac­count­ing — even to the in­vest­ment in­dus­try.

The level of con­nec­tiv­ity in de­vices is the rea­son why this pe­riod of tech­no­log­i­cal dis­rup­tion is dif­fer­ent from prior pe­ri­ods such as the 1990s tech bub­ble. In par­tic­u­lar, the sub­se­quent build out of the in­ter­net of things has re­sulted in the ac­cel­er­a­tion and rapid adop­tion of new tech­nolo­gies that are us­ing data to ef­fec­tively drive down prices of prod­ucts and ser­vices for con­sumers.

In the in­vest­ment world, this level of con­nec­tiv­ity has sud­denly al­lowed equal and full ac­cess of in­for­ma­tion to the many char­tered fi­nan­cial an­a­lysts out there will­ing to do the re­search. As a re­sult, the level of ef­fi­ciency in the mar­kets has in­creased to the point where it is be­com­ing nearly im­pos­si­ble to con­sis­tently out­per­form pas­sive bench­marks — es­pe­cially one in which there is lit­tle to no volatil­ity. Look­ing ahead, imag­ine what will hap­pen when more of these CFAs start us­ing cog­ni­tive com­put­ing and ar­ti­fi­cial in­tel­li­gence to start analysing all of this data.

It isn’t sur­pris­ing to see ex­change traded funds (ETFs) do very well in this en­vi­ron­ment. They them­selves have been a very pow­er­ful dis­rup­tive force to the high-fee mu­tual fund in­dus­try. Sud­denly, the av­er­age in­vestor can own the mar­ket at a sub­stan­tial dis­count to an ac­tively man­aged fund that is strug­gling to de­liver al­pha due to higher fees and greater broader-mar­ket ef­fi­cien­cies.

While the fund in­dus­try is try­ing its best to adapt by low­er­ing fees them­selves, it is be­com­ing a race to the bot­tom hav­ing to com­pete with ETFs that charge as lit­tle as 10 ba­sis points. More so, it is com­pet­ing against the banks and even in­sur­ance com­pa­nies who have both the size and scale to be a low-cost and prof­itable man­u­fac­turer of ETFs.

In­ter­est­ingly, ETFs have a lot in com­mon with the net­work ef­fect be­ing used in other in­dus­tries. This is where a prod­uct or ser­vice is nearly given away at cost in or­der to build out an in­ter­nal dis­tri­bu­tion sys­tem which ad­di­tional higher mar­gin prod­ucts or ser­vices are then lay­ered on top of. This makes it very dif­fi­cult for a sin­gle-ser­vice provider such as a mu­tual fund com­pany to com­pete against a multi-ser­vice fi­nan­cial in­sti­tu­tion.

Then there are the in­vest­ment ad­vis­ers who have fi­nally be­gun us­ing ETFs them­selves in or­der to pro­tect their mar­gins in an en­vi­ron­ment where reg­u­la­tory and ad­min­is­tra­tion costs are ris­ing and in­vest­ment fees are fall­ing. From a value-add per­spec­tive, their role is still im­por­tant in re­gards to as­set al­lo­ca­tion and ETF se­lec­tion.

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ETFs have a lot in com­mon with the net­work ef­fect be­ing used in other in­dus­tries.

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