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Year: 2017
As more Millennials are choosing to freelance, employers must evolve to suit employees’ needs
If the Industrial Revolution gave rise to the self-made man, then one could rightly argue that the digital revolution has given rise to the self-sufficient Millennial.
Rather than middle-aged industrialists, however, this movement is being led by young men and women in their 20s and 30s, often with a high level of education (see Fig 1), throwing themselves into start-ups, sharing economy jobs and freelance gigs, spreading themselves across all bases and sectors with one key motivation in mind: the need for flexibility.
The figures speak for themselves. According to a Princeton University study, 94 percent of all new jobs generated in the US between 2005 and 2015 came about through the gig economy.
A study from 2016 entitled Freelancing in America noted that 55 million Americans – 35 percent of the country’s entire workforce – now work in a freelance capacity, contributing a whopping $1trn to the US economy last year.
By 2020, 40 percent of the US workforce is expected to be made up of independent contractors. Over in the UK, self-employment has likewise risen, soaring from 3.8 million in 2008 to 4.6 million in 2015.
An ever-greater percentage of workers are now self-employed and spending their working hours on freelance work (see Fig 2), according to the Office for National Statistics.
Some believe this trend has gone so far that the traditional working model is already out the window. “Gone is the era of the lifetime career, let alone the lifelong job and the economic security that came with it,” wrote Nick Hanauer, a Seattle-based entrepreneur, and David Rolf, President of the Service Employees International Union, in an article for Democracy Journal. “[It has] been replaced by a new economy intent on recasting full-time employees as contractors, vendors and temporary workers.”
While that’s arguably an exaggeration, it’s clear that change is on the horizon – change that will have consequences for companies as well as individuals. Last year, 40 percent of global employers reported a talent shortage, marking the highest level since 2007, according to research by Manpower.
This raises an interesting question: are companies doing enough to cling on to a generation that prioritises flexibility and embraces entrepreneurialism?
Trend drivers
In order to answer that question, we need to look at the key factors driving the trend. Among the biggest is the loss of job security and benefits that the financial crisis helped propel, according to Dan Schawbel, founder of research body Millennial Branding.
“When my parents and grandparents were growing up, the company would take care of them – that’s why they would stay with one company forever,” he said. “Now, lifetime employment doesn’t really make as much sense, because the incentives are not in place, and because companies are moving faster; they’re adjusting, they’re making layoffs, they’re doing M&As. We live in turbulent times, so people don’t trust their employer as much.”
Spending all day sitting at a desk for the sake of appearances can’t go on for much longer
But it’s also a question of freedom, with desire for flexibility now ranking as the number one reason people choose to work for themselves. In turn, this is partly driven by the pressures of too much work, according to Schawbel.
“In America, people are working an average of 47 hours a week – there’s no 40-hour working week any more. And now, with the advent of technology, managers expect their employees to answer emails and phone calls after work hours, with no additional pay, so employees are burning out and leaving their companies.”
Gig workers, by comparison, log an average of 36 hours per week, according to the Freelancing in America study, which is more in line with the working patterns of yesteryear.
Then there’s the issue of job satisfaction; a desire for fulfilment that goes beyond the practical benefits and salary considerations that motivated previous generations.
This has been brought about by a confidence-enhancing, praise-focused style of upbringing, according to Krassi Popov, founder of US mobile charging start-up Veloxity.
“In the US… young people think they are special because they are told that they are,” she told Slideshare. “People who think they are special don’t want to sit in front of a computer from nine to five doing cubicle work.”
Anecdotally at least, this seems to be playing out. “The flexibility is a huge benefit,” said Rob Walker, a 28-year-old freelance photography assistant. “I love being my own boss and being able to choose who I work with.”
Alex Swinfi, Assistant Content Producer at London’s Royal Opera House and a former freelancer, agreed: “It can be very well paid if you get the right job,” he said. “It’s really diverse and exciting work, and there’s the possibility of travel. There’s also a good community spirit on certain jobs, which I really enjoyed.”
It’s little wonder most stick with it, with 79 percent claiming freelancing is better than traditional employment and the majority (63 percent) having found themselves there out of choice rather than necessity, according to Freelancers Union, a body representing independent workers.
However, it’s not just about the mentality – advances in technology have brought the possibility of self-employment to just about everyone. One-man-bands can now launch start-ups without a mountain of savings, while freelancers can find work online via sites such as Upwork (the world’s biggest platform for gig workers) within the space of minutes.
The sharing economy, meanwhile, offers a host of other opportunities; five million UK citizens have been provided with paid work from the sector, according to a 2016 Ipsos MORI survey.
All of this is leading Generation Y to mix things up, taking an axe to the traditional career path of a full-time, salaried job for most of one’s life, with consultancy and freelance work a form of late-career semi-retirement.
It’s not just individuals driving this change, of course. While some businesses are struggling to recruit, others are reaping the advantages of an endless selection of freelance, zero-hour workers, saving on the likes of sick pay, annual leave and other benefits associated with permanent staff.
In a survey carried out by oDesk, 76 percent of employers said they took on remote workers because they were less expensive, 46 percent claimed they could get the job done more quickly, and 31 percent cited difficulties finding local talent.
“There’s been a need to cut costs in the aftermath of the financial crisis, and when you hire freelance workers, you don’t have to pay them employee benefits,” said Schawbel. “Freelancing is a way to save money. The other thing is, businesses are moving faster than ever. In order to keep up with these changes and solve problems almost on demand, they’re looking to hire freelancers who are experts and have speciality skills for a brief period of time, and then move on to solve other problems.”
In the case of the UK, this also means businesses can cut their tax bill, eradicating the 13.8 percent employer National Insurance (NI) that they’re tied to for employees.
“How to close that huge gap without causing wider problems is what our limited capacity for anxiety should really prioritise,” argued Torsten Bell, Director of the Resolution Foundation, in a blog post earlier this year following a widespread debate over raising NI rates for the self-employed.
Economic hardship
As that debate suggests, how to adapt to this new workforce is arguably one of the biggest challenges facing the economy and businesses within it. In the UK, lower NI rates for the self-employed have traditionally been a means of encouraging business development for the health of the economy. Now they’re starting to create friction, with some believing the model is outmoded.
“An employee earning £32,000 ($43,344) will incur between him and his employer £6,170 ($8,356) of NI contributions. A self-employed person earning the equivalent amount will pay just £2,300 ($3,115) – significantly less than half as much,” said UK Chancellor Philip Hammond in a speech this year ahead of discussions to raise NI.
“Such dramatically different treatment of two people earning essentially the same undermines the fairness of the tax system. Employed and self-employed alike use our public services in the same way, but they are not paying for them in the same way.”
Leadership, workforce structures and attitudes need to change if companies are to attract and retain workers at a time when being your own boss is a real possibility
He argued that the lower level of NI was forecast to dent public finances by £5bn ($6.5bn), negatively affecting the 85 percent of the workforce still in full-time employment.
Then there’s the issue of potential tax avoidance. Taxing the self-employed relies on the honesty of the individual in filing accurate returns, and tracking honesty isn’t easy.
“Company owner-managers… along with the self-employed… have more opportunities to avoid or evade taxes,” wrote economists Stuart Adam, Helen Miller and Thomas Pope, in the Institute for Fiscal Studies’ Green Budget 2017 document.
What’s more, tax is not the only economic issue surrounding this changing workforce model. “Freelancers are working less and earning less than they did when they had traditional full-time jobs,” wrote Sarah Horowitz, founder of Freelancers Union, in an article for Fast Company. “And that means they’re going to be spending less too, in every facet of the marketplace.”
If it’s true that lower earners contribute less to the economy, then a freelance-heavy market could end up with a very large hole.
One thing is certain – freelancers are definitely earning less money. A study by Workplace Trends found that almost half of the self-employed respondents were earning below what they made as full-time workers, and 63 percent racked up less than $30,000 a year.
What’s more, data compiled by the UK Government revealed that collective earnings by independent workers fell by £900m ($1.1bn) in the seven years to 2015, in spite of the fact that numbers within that self-employed group rose by more than 700,000.
So, while the likes of Mark Zuckerberg and Uber co-founder Garrett Camp might be all over the media with their multibillion-dollar net worths, most gig workers appear to be scraping the barrel rather than hitting the jackpot.
And it’s not just the wider economy that could feel the impact, but the larger businesses operating within it – the very entities who are driving the change.
For a start, companies have less control over freelancers, who likely have several other commitments on the go and may not be able to invest the same commitment as a full-time employee.
“While a freelancer wants to keep you as a client, your company’s individual success is not their priority,” stated recruitment expert Riia O’Donnell in a blog for Recruiterbox. “A full-time employee is likely to feel a higher level of commitment to your organisation, and therefore more motivated to add to the bottom line. In-house employees are aware of everything that’s going on in the company, and can leverage that knowledge to your advantage when building relationships with clients. Freelancers don’t have that access.”
Creating a firm company culture can also be challenging when staff turnover is high, as can trusting workers with sensitive data, given they might well be working for competitors too. Then there are the issues around determining who’s a contractor and who’s a full-time employee.
In 2014, businesses in the US forked out a total of $79m to more than 100,000 workers after it was concluded they were employees rather than independent workers. These snags suggest relying on freelancers isn’t necessarily as rosy as it might first seem for companies.
Revolution adaptation
It seems, then, that a combination of freelance workers and full-time employees is needed if individuals and businesses are to continue benefiting from the perks of using or being both without upsetting the balance.
But how companies maintain that balance among Millennials and other workers who are increasingly seduced by the idea of a flexible role, where they can be their own boss, is the real challenge.
Of course, if flexibility is the main driver, then a large part of it comes down to flexible working policies that turn the traditional, hierarchical model on its head and give employees the freedom they’re crying out for.
Given the apparently low levels of pay and other sacrifices that self-employment entails – especially in the US, where obtaining health insurance without an employer is troublesome – this might well be enough to draw them back in.
Several companies are taking the right steps. Virgin implemented its unlimited holiday policy in 2014, in which staff can take leave whenever they want and for as long as they want – being judged solely on the quality of their work, not the time they spend doing it.
The company has since reported a marked rise in employee engagement. “Staff churn is well down,” wrote CEO Josh Bayliss in an article published by Grant Thornton. “The unlimited leave policy has led to a highly engaged workforce, all of whom are very clear about their purpose.”
Twitter later followed suit, and a host of others have since joined the fray, recognising that spending all day sitting at a desk for the sake of appearances can’t go on for much longer.
There’s a handful of companies encouraging flexibility in other ways too. Insurance company Swiss Re has taken its own line, encouraging staff to work remotely and flexibly under its ‘Own the Way You Work’ programme, while health insurance giant Aetna has 43 percent of its staff working from home.
American Express, meanwhile, has its BlueWork programme, allowing employees to work either from home, on the road, or in a traditional office environment – whichever makes them most efficient and content.
All of these give employees the chance to live some of the key elements of the freelance lifestyle without sacrificing stability, and without negatively impacting the economy.
Simpler measures that companies can take include extending maternity and paternity leave – one of the key differences between full-time and self-employment, according to Schawbel.
“There’s a million new Millennial mums every year,” he said. “The demand for maternity leave is going to accelerate at such a rate that if companies don’t offer these programmes, they’re not going to be able to recruit or retain the best talent.”
That’s especially true in the US, where employees get less than three weeks of maternity leave at an average full salary rate – among the lowest in the developed world.
One of those setting a precedent is Netflix, whose unlimited paid parental leave programme enables both men and women to take however much time they want during the year.
Then there’s Amazon, which offers a ‘leave share’ programme, allowing employees to dish out up to six weeks of their own paid paternity leave to their partner (out of a total 20 weeks).
Google, meanwhile, offers $4,000 in ‘baby cash’ to new parents. It’s this type of approach that’s needed if companies are to attract skilled workers of both sexes and retain company loyalty.
There’s still a way to go, however, and while the tech sphere is leading the way with its progressiveness, others remain stuck in the past. One in four employees in a Polycom study entitled The Human Face of Remote Working said their company didn’t offer flexible working, with only 32 percent regularly working from home – despite the apparent advantages (63 percent said they were more productive, and 70 percent said it improved work-life balance).
Full-time employees in the US work a weekly average of
47 hours
Self-employed workers, by comparison, work around
36 hours
Many believed clearer policies for flexible working were needed, and that technology needs to be ramped up. “More businesses need to be able to offer collaboration tools – to enable that human contact that people crave – or risk losing out to those businesses [that] are able to offer flexibility and have access to talent and retain talent as a result,” said Mary McDowell, CEO of Polycom, in response to the findings.
It’s not just about flexibility, of course. Leadership styles, workforce structures and ethical attitudes need to change too, if companies are to attract and retain workers at a time when being your own boss is a real possibility.
“The old leadership was about command and control,” said Schawbel. “Boomer leaders are autocratic leaders, whereas my generation is all about transformational leadership – having a vision, meaningful work, encouraging the best in others, collaborating as a team.”
The element of meaningfulness is perhaps the biggest factor; Deloitte Global’s recent annual Millennial survey found that “Millennials believe multinational businesses are not fully realising their potential to alleviate society’s biggest challenges”. And if they don’t believe in the company, how likely are they to stay when self-employment is such a viable option?
Of course, making these changes isn’t something that’s going to happen overnight. Shaking up decades of hierarchical, set-in-stone structures will take time. But with Millennials now the largest demographic in today’s workforce, we’re surely about to see some big changes in the way businesses are run.
If they manage it successfully, full-time employment will continue to have its place – arguably in a better state, with employees adopting the type of entrepreneurial, self-motivated spirit the freelance lifestyle demands.
If they don’t, predictions that the workforce will become almost entirely freelance might just win out. If that’s the case, governments will need to take action to protect an economy whose fate hangs in a very delicate balance.
Libor: the end of a precious number
When Andrew Bailey, head of the Financial Conduct Authority (FCA), disclosed in July that Libor will be phased out in 2021, few people in the financial world were surprised. The London Interbank Offered Rate (Libor), a benchmark interest rate used in markets worldwide, has been dying a slow death since the credit crunch. Its demise will mark the end of an era.
Although Libor started as an innovative benchmark to facilitate bank loans, it has gradually become a staple of the financial system.
Every day, bank panels around the globe – one for each major currency – submit an estimation of the interest rate they charge to lend to one other, backed up by transaction data. This interest rate underpins a wide range of financial products, from futures and derivatives to mortgages, worth at least $450trn.
The Greek banker
Libor is the brainchild of 91-year-old financier Minos Zombanakis, known in the City of London as ‘the Greek banker’. If Indiana Jones was a suited and booted banker rather than an archaeologist, Zombanakis could play the part.
The son of a poor farmer, he grew up in Crete and fought in the Korean War before moving to Washington to work for the Marshall Plan. Prior to this, the Second World War had interrupted his undergraduate studies, but that did not stop him from enrolling in graduate school at Harvard University and
obtaining a master’s degree.
When he moved back to Europe as a Middle East representative for a US firm, he became one of the pioneers of syndicated banking, an innovative practice that enabled banks to share the costs of risky loans.
Those were the early days of the eurodollar market: dollars flooded European markets, particularly the City, to avoid the strict legislation that capped US deposit interests at home, as well as interest for bonds purchased by non-US investors.
Zombanakis saw the opportunity and set up a new bank in London to tap into growing cross-border lending. When his old friend Khodadad Farmanfarmaian, Iran’s central banker, approached him to raise $80m for Iran’s five-year plan, he had to convince a number of banks to share the costs of a long-term loan to a country with a poor record in international markets.
He came up with a new concept: a floating interest rate, renewed every few months to reflect shifting market conditions. The rate would cover the banks’ costs to fund the loan, and would include a small spread for profit.
Libor had been born, and brought with it the rise of the syndicated loan market, itself a major step towards financial globalisation. By hedging risks and costs among several creditors, bank consortia created economies of scale that boosted international capital flows to unprecedented levels.
Libor strengthened London’s position at a time when international capital was looking for a global centre
For most banks, participation in a consortium was their first brush with international clients.
Chris O’Malley, a veteran of bond markets and author of Bonds with Borders: A History of the Eurobond Market, said: “Most financial innovations tend to come out of the US. But the floating concept was a European, and especially [a] London, invention. It came at a time when interest rates were moving up sharply and investors were worried about losing money, so the idea of having a floating rate was quite attractive.”
Zombanakis soon established himself as a leading player in financial circles. Standing at 6’3”, well groomed and armed with irresistible charm, he became a member of the world’s most exclusive club at the time: City insiders.
“He was ambitious, but not in a way that made other people feel resentful or threatened. Most people wanted to help him,” said David Lascelles, Zombanakis’ biographer and Co-Founder of the Centre for the Study of Financial Innovation.
When the first oil crisis hit in 1973, Zombanakis saw another opportunity. As energy prices were skyrocketing, oil-producing countries were amassing colossal current account surpluses in dollars.
Zombanakis, who had connections in the Middle East, was one of the bankers who helped them recycle excess capital by lending it to developing countries, a practice known as ‘petrodollar recycling’.
The benchmark that changed everything
In the meantime, his brainchild had taken a life of its own, becoming the quintessential benchmark rate for bonds. By the 1980s, financial institutions had created complex products, such as derivatives and interest rate swaps, that required an independent interest rate for interbank lending;Libor was the fuel that propelled these markets into exponential growth.
In 1986, the British Bankers’ Association (BBA) started publishing official Libor rates.
Libor’s contribution to the City’s renaissance as a global financial hub cannot be overstated. In the early 1970s, the US relaxed its investment and lending restrictions to repatriate dollars held abroad.
The Financial Times predicted “the disappearance of one of the main foundations of the City’s pre-eminence as a world financial centre”. But the die had been cast; for the first time since the interwar period, London was competing on an equal footing with New York.
“Libor certainly strengthened London’s position at a time when international capital was looking for a global centre, especially after the US drove dollar business abroad with its interest tax,” said Lascelles.
The beginning of the end
‘The world’s most important number’, as The Wall Street Journal once called Libor, became a victim of its own success. Its reputation as an independent benchmark took a hit in 2012 when it was revealed that some panel banks were systematically rigging the rate.
Complicit institutions were forced to pay a total of $9bn in penalties, while policymakers pushed for a review of the submission process.
Regulatory oversight shifted from the BBA to the FCA in 2012; administration was taken up by ICE, a US exchange. Real-time data beefed up the benchmark to reflect actual transactions, rather than estimations of borrowing costs.
But full-scale reform proved impossible as Libor rates had been incorporated into a vast number of contracts running over several decades. The FCA announcement sealed its fate.
The official reason for Libor’s demise is that it is becoming obsolete; the interbank lending market has dwindled since the credit crunch. But the benchmark has also become unpopular with banks who have seen their reputation tarnished by their association with rate rigging.
“Banks prefer not to be the subject of such scrutiny and large fines as they were during the Libor scandal. They therefore prefer either not to be involved with Libor, or not to be given scope for manipulation (or to be accused of manipulation),” said Joel Shapiro, Associate Professor of Finance at Saïd Business School, University of Oxford.
Regulators aim to put in Libor’s place an index fully reflecting transactions. For sterling rates, the most likely candidate is the Sterling Overnight Index Average, which captures bank and building societies’ overnight funding rates.
In the US, the Alternative Reference Rates Committee – a body formed by systemic banks and supported by the US Government – recommends the Broad Treasury Financing Rate, a rate representing borrowing costs secured against US Government debt.
“These options are only for short-term rates, and there is considerable uncertainty over what will replace Libor long-term rates,” said Shapiro. “Both are based on actual transactions, which is an advantage compared to Libor. They are also overseen by the regulators, rather than outsourced, which will improve oversight. Nevertheless, transaction-based benchmarks can be gamed as well, as we have seen in the gold and FX benchmarks.”
Another danger is benchmark fragmentation across different regions and markets that could result in higher capital costs.
For his part, Zombanakis, long retired to his native Crete, feels like a modern Dr Frankenstein, unable to recognise a world he helped create.
In an interview with the authors of The Fix, a bestseller on the Libor scandal, he said: “Banking now is like a prostitution racket run by pimps. There’s just too much money involved.”
For richer for poorer: the economics of marriage
Times are rapidly changing, but for many people around the world, marriage remains the ultimate symbol of happiness. And, of course, for the companies that facilitate this happiness, it remains a very lucrative industry.
According to an IBISWorld report on wedding services, the global market is worth an estimated $300bn per year – and that number is just a fraction of the whole picture. What’s less well known, however, is that marriage is also financially beneficial for the couple involved.
Over time, much has changed in the institution of marriage: from the 1950s, when marriage was about bringing together the traditional roles of men and women to form a union based on practicality and compromise, to today, when it is largely seen as a equal partnership rooted in love and mutual respect.
A growing number of individuals, however, are bucking a trend that stretches back centuries by choosing to unshackle themselves from society’s
once-paramount norms.
There are a number of reasons behind this, but the perceived protection of hard-earned assets is one of the most significant. However, though it is true that divorce can be costly to the point of bankruptcy, marriage actually tends to lead to increased wealth.
Indeed, married couples are considerably better off than their single peers – as long as they take the phrase ‘till death do us part’ literally.
Cashing in
In 2005, the most comprehensive study on the economics of marriage was published. Written by Jay Zagorsky, the report, Marriage and Divorce’s Impact on Wealth, closely followed the net worth of individuals throughout their 20s, 30s and early 40s, and found that the wealth of married respondents increased by around 14 percent for each year they were wed. “Compared to being single, married people almost doubled their wealth, increasing it over 93 percent,” said Zagorsky.
There are three main principles that explain this considerable difference. The first relates to savings – married couples save more, as thinking and living as a unit, so to speak, is more conducive to long-term financial planning.
Married couples are better off than their single peers, as long as they take the phrase ‘till death do us part’ literally
As Zagorsky explained: “Married people are more likely to buy homes or make other investments together than people who are co-habiting.” In essence, knowing the relationship is for life inspires a greater readiness to invest and plan for the future.
Cohabiting couples, on the other hand, tend to save and invest less, while keeping their finances separate. In this sense at least, they are not as fully committed to one another as married couples.
In the UK, for example, 31 percent of cohabiting couples keep their finances completely separate and just 54 percent are homeowners (in comparison to 74 percent of married couples), while their finances are in poorer health too, according to Aviva’s Family Finances Report.
What’s more, this trend of wealth accumulation has augmented considerably over time. “Marriage confers more economic and interpersonal benefits today than in the past, because two-earner families have a huge advantage over single-earner ones, and laws and social values encourage more equality and democracy for all family members,” said Stephanie Coontz, Director of the University of Texas Council on Contemporary Families.
Another interesting aspect is that married couples are more likely to receive money from their families than their single or cohabitating peers. This is particularly the case when it comes to the wedding itself, with monetary gifts being customary in cultures around the world. In many countries, it is also common for parents to help newlyweds buy their first home.
What’s mine is yours
The second principle is that the sharing ethos of marriage is especially beneficial in terms of both daily and longer-term expenses. For example, there is little difference in the cost of home insurance or heating for a dwelling used by one person or by two, so the cost is considerably lower when split.
The same economies of scale apply to numerous purchases: married couples can share cars, household appliances and furniture, rather than each buying the same things independently.
Finally, there is the division of labour. Married couples share the responsibility of looking after their home, meaning that less time is lost compared with those who live alone. Household chores and other daily administrative duties can be allocated based on each partner’s strengths and schedule, increasing efficiency and effectiveness.
What’s more, the spouse with the less demanding job, for example, can do more in terms of housework and errands, leaving the bigger earner to focus more on their career. In turn, this can help the latter excel in the workplace, get promoted, and bring home a bigger paycheque.
The difference with single peers is stark. It can be increasingly difficult for a single person to cover all their household chores and expenses alone, while also having a full-time job that grows more demanding over time.
This becomes even more problematic for single parents who must also raise children by themselves, leaving little room for savings and, in many cases, career progression.
This combination of factors makes married couples significantly better off. “By the time they reach their 50s, married couples generally have about three times the assets their single peers do,” said W Bradford Wilcox, Professor of Sociology at the University of Virginia.
Coinciding trends
While the above has been borne out statistically, there is some bias to note. Interestingly, nowadays, people who choose to get married are more likely to be in a better position to accumulate wealth in the first place.
“Today, those who are better educated and earn more are also more likely to get and stay married. So one reason the married are wealthier is that today’s group of married men and women are more selective,” explained Wilcox. Coontz added: “The big story is the growing gap in marriage rates between educated, professionally employed people and less-educated workers whose real wages have stagnated or even fallen over the past 40 years.”
Indeed, getting married is itself a marker of financial stability. In many cases, couples wait and save until they are financially secure before taking this step, particularly if the intention is to have children one day.
Weddings can be a huge expense, implying pre-existing wealth and available financial support from families, supporting the notion that modern marriage is, to some extent, an institution of the well-off.
Modern relationship trends play a role here too. “The availability of divorce means that people feel a greater need to be confident in their partner’s commitment before they invest in joint ownership of assets or take on debts to pay for education or a house,” Coontz explained. “The benefits of egalitarian marriage also depend on negotiating skills, and the investment of time and energy in the relationship, all of which are easier for people who are not struggling with chronic economic insecurity.”
Divorcees face a reduction in wealth of
77%
The annual value of the US divorce industry is
$50bn
State bonus
Marriage and wealth have always been deeply intertwined. “For thousands of years, marriage was itself a way of accumulating resources,” said Coontz. “Whether by expanding the family labour force, as in some ranked horticultural societies where ‘big men’ collected wives and used their labour and their children’s labour to establish networks of dependence, or in class societies where marriage was a way of making military alliances, consolidating claims to aristocratic rank, raising capital, and forging advantageous alliances.”
Over time, states began to assert authority over who could wed, prohibiting some groups from marrying others and barring illegitimate offspring from inheriting wealth. This level of control was consolidated by the 19th century.
Western governments around this time began to charge themselves with making marriages valid. Thereafter, marriage licences were used to authenticate all the benefits of marriage, including the entitlements of bereaved spouses.
Marriage licences became even more important when social welfare programmes were established during the following century. This consolidated rights to benefits, which is of particular significance in the US, where family healthcare plans can only be accessed by married couples.
“Over the past few decades, there have been successful efforts to disconnect certain rights from possession of a marriage licence, but a legal marriage still confers much more security in terms of access to benefits,” said Coontz. “Unmarried partners or singles do not get many of the legal and economic benefits that remain linked to a marriage licence.”
As a case in point, according to the Aviva report, nearly one in five cohabiting respondents are under the false impression that they are fully entitled to bereavement benefits. Such discrepancies in the law, which are common across the globe, mean that unmarried individuals are more open to financial risk than their married counterparts.
I do not
Despite the economic benefits, however, marriage rates are on the decline on both sides of the Atlantic. That said, it is worth noting that this decline is linked to age: as more and more couples leave it later in life to wed, the rate of marriages falls.
That said, as Coontz explained, there may be gender factors at play too: “It is certainly true that the growing economic independence of women, and the lessened economic clout of many men, have removed some of the older incentives to wed.”
This is exacerbated by an increased fastidiousness in choosing the ideal partner. With the freedom to choose who we spend our lives with, fewer of us than ever are willing to settle. This is a significant divergence from even the recent past, when marriage was seen more as a compromise and a necessity in life’s progression.
Mounting inflexibility is also linked with finances, according to Coontz: “People are afraid to get tied down to someone who could become an economic liability.”
The fall in the rate of marriage correlates with a decline in the rate of divorce (see Fig 1). The figures suggest that in being more selective with one another, and by waiting longer to tie the knot, married couples are less likely to separate.
“I think couples marrying today are often better educated, more committed, or more religious than couples marrying a generation or two ago,” said Wilcox. “All these factors combine to reduce their risk of divorce.”
Coontz elaborated: “This is one of the most interesting trends we are seeing. All the ‘rules’ about what makes for a satisfying marriage and what predicts divorce are in flux.
Up until the 1980s, marriages where the wife had more education than her husband had a higher rate of divorce. That risk has now disappeared. Recent studies show that when a wife earns more than her husband, that too has ceased to raise the risk of divorce.
Men with egalitarian views are now more likely to marry than traditional-minded men, and less likely to divorce. In Europe, especially in countries with good work-family support systems, dual-earner couples are now less likely to divorce than couples with a single breadwinner.
In the US, couples who share childcare and housework now report the highest marital and sexual satisfaction, again a reversal of findings about marriages formed in the 1960s to 1980s.”
However, as Wilcox explained, the inverse is also true: “Divorce and family instability are especially common among the poor and working classes. My own research, for instance, suggests divorce is about three times more common among less-educated Americans, compared to college-educated Americans. So, the family revolution of the last 50 years has left working-class Americans doubly disadvantaged – they have fewer socioeconomic resources, and they
face more family instability.”
Costly goodbye
Despite numbers falling, the divorce industry is still booming. In the US, this surge can, to some extent, be attributed to the introduction of the ‘no fault’ divorce in 1970, which enabled couples to split without proven wrongdoing.
Today, more than 800,000 divorces take place in the US each year, according to the National Centre for Health Statistics, making for an industry that is worth a mammoth $50bn a year.
As financially beneficial as marriage can be, the impact of divorce can be worse than if a couple had never married in the first place. First, the economies of scale are immediately lost as the couple reverts to separate homes, and begin paying for products and services individually once more.
Then there is the cost of divorce itself to consider. “Divorce is expensive in out-of-the-pocket terms, such as paying for lawyers and court fees,” said Zagorsky.
The cost of legal fees and the final settlement naturally depends on the net worth and earning power of the individuals involved. At the extreme end of the spectrum, divorce can cost the higher earner of the pair millions – billions even.
When Formula One tycoon Bernie Ecclestone divorced his wife Slavica after 23 years of marriage in 2009, a settlement of $1.2bn was reached, while the 1999 divorce of Rupert Murdoch from his wife Anna cost the media tycoon a whopping $1.7bn.
Topping the list of most expensive divorces, however, is that of French businessman Alec Wildenstein from his wife Jocelyn in 1999, which was estimated to cost the former $2.5bn.
The costliest divorces of all time
$2.5bn
Alec Wildenstein and Jocelyn Wildenstein (1999)
$1.7bn
Rupert Murdoch and Anna Murdoch (1998)
$1.2bn
Bernie Ecclestone and Slavica Ecclestone (2009)
$874m
Adnan Khashoggi and Soraya Khashoggi (1980)
$435
Mel Gibson and Robin Moore (2009)
Such high figures may not be applicable to the average person, but the relative cost is still significant. Though a barrage of ‘quickie divorces’ advertised online now offer couples the opportunity to split for fees as low as $299, the traditional route with legal firms can cost between $15,000 and $20,000.
“Divorce is also very time-consuming and takes people away from work – you can’t earn money if you’re sitting in a lawyer’s office. In combination, these factors reduce savings, which drags down wealth,” Zagorsky explained.
Of course, when numerous assets are involved, the cost can quickly escalate, particularly when combined with a lengthy marriage and the involvement of children. For this reason, a growing number of couples – an increase of 63 percent in the past three years, according to the American Academy of Matrimonial Lawyers – are choosing to sign prenuptial agreements, or pre-nups, as they’re commonly known.
Prenuptial tension
For many individuals, the idea of a pre-nup is utterly unromantic – the expectation that things will eventually go awry perhaps even revealing something about a partner’s deepest feelings. In a sense, the thought of preparing for the worst before even starting what is meant to be a joyous journey seems like a sure sign of trouble ahead. However, the logic behind pre-nups is not so simple.
For high-net-worth individuals, having a pre-nup in place offers confidence that their hard-earned wealth, inherited assets and children’s birthrights will be secure.
They proceed with pre-nups not in the expectation of failure, but from a desire to be prepared for any eventuality, and to ensure they do not lose decades (or even centuries) of accumulated wealth in a relationship that is – by comparison – short-lived.
Ultimately, with divorce as accessible and ubiquitous as it is, pre-nups are by no means a wholly misjudged precaution.
That said, just because there is a pre-nup in place does not mean that one’s pre-existing assets are completely protected in the event of divorce. There are many reasons why a court may find a pre-nup to be void; it could be deemed fraudulent if one partner failed to disclose all of their assets to the other, for example.
There are also cases where one party was forced to sign the contract against their will, and cases in which a lack of understanding from one party is enough to invalidate the agreement.
Other stumbling blocks included signing without legal representation, incorrect paperwork, and the inclusion of preposterous provisions, including difficult-to-believe clauses against weight gain.
Until death
Marriage can be a wonderful thing – it can provide lifelong companionship, invaluable support through good times and the bad, and a level of intimacy born from enduring commitment.
It can also help create a better life for a couple – and any children they may have – through the amalgamation of finances, earnings and savings. By sharing everything from a home to chores, married couples are in a stronger position than their counterparts to accumulate wealth.
Of course, the picture is not completely black-and-white. As recent evidence shows, those who are better educated and more financially stable are more likely to marry, and so tend to be wealthier in the first place.
As financially beneficial as marriage can be, the impact of divorce can be worse than if a couple had never married in the first place
But such factors do not invalidate the economies of scale that marriage confers, nor the statistical tendency to save and invest more when wed.
While this could inspire some people to marry purely for the financial benefits, however, the cost of divorce is far greater than the gains of marriage. Together with legal fees and potential lost assets, exiting a marriage can see divorcees in a considerably poorer position than if they had never married in the first place, and this may be the case even with a pre-nup in place.
According to Zagorsky, divorcees face a calamitous 77 percent reduction in wealth, which could easily lead to financial ruin. Clearly, when deciding to marry, the stakes are high – in financial terms alone, it’s best to be absolutely certain, or else just say ‘I don’t’.
Governments must move fast to support growing number of electric vehicles
The internal combustion engine (ICE) did not emerge, fully formed, as the dominant method of powering motor vehicles. At the dawn of the 20th century, electricity, petroleum and steam were all competing to become the primary source of energy in this fledgling industry.
In fact, it was the Electric Vehicle Company which became the first motorised taxi firm in the US, and subsequently the largest vehicle manufacturer in the country.
But by 1907 it was forced into default, and just a few years later the mass-produced Ford Model T would take the market by storm. The ICE had won. As is often the case, market forces were a large part of this success.
Electric and steam-powered vehicles, compared to their petrol counterparts, had limited range and needed frequent charging or a constant supply of water. The discovery of oil in Texas at the turn of the century clinched the deal, making low-cost petroleum the de facto fuel of choice for the automobile.
The market today, however, is very different to the one that existed a century ago. Environmental concerns and technological innovations are shifting consumer opinion back in favour of the electric car (see Fig 1), and governments around the world are legislating in support of clean energies. Perhaps most of important of all, electric vehicles (EVs) are starting to make sense from an economic standpoint.
The UK and France have banned the sale of new petrol and diesel cars from 2040 onwards, while India has set 2030 as its cut-off point. Norway has been the most ambitious of all, targeting the year 2025, while several other countries have set electric vehicle sales objectives.
However, with market forces already driving consumers towards EVs, governments need to consider more proactive legislation if they are to be ready for the coming economic disruption.
Moving too fast
With electric and hybrid vehicles making up just 1.1 percent of global market share in 2016, a major question mark hangs over recent government proposals. Primarily, is it reasonable to impose a ban on petrol and diesel cars when they remain the popular choice for most motorists?
Logistically, there are also a number of financial and infrastructural hurdles that must be overcome before countries will be ready for the ban. Speaking to World Finance, Iain Mowat, Senior Research Analyst at Wood Mackenzie, discussed the burden that electric vehicles will place on national energy grids.
“The absolute growth of power demand from EVs will accelerate significantly from 2030, when both policies and costs begin to favour them more and more,” he said. “By 2040, our EV base case adds 100TWh of power demand in Europe, about the current size of the Dutch power market, and equivalent to 2.5 percent of the total European market in 2040. This will require the building of more power stations in Europe as demand grows.”
Banning petrol/diesel vehicles by 2040 is like banning horse-drawn vehicles by 2040: there won’t be anything to ban
In the UK, the most pessimistic estimates have suggested that 10 new power stations of equivalent output to the £19.6bn ($25.6bn) Hinkley Point nuclear facility will be required to cope with increased energy needs by 2040. If building more power stations proves economically infeasible, countries may be forced to import electricity, which brings its own financial implications and additional concerns over energy security.
One potential way to reduce the burden on national grids, while at the same time boosting revenue, would be for governments and energy firms to impose tariffs on anyone charging their vehicle at peak times.
Encouraging individual energy production – via personal solar panels, for example – is another option. Whichever approach governments ultimately take, it would be reassuring if policy proposals began to examine the economic impact of increased EV usage sooner rather than later.
Similarly, there are justifiable concerns about whether the existing network of charging points is robust enough to support an increase in EVs. Norway has 7,632 charging stations serving 5.3 million people, while India has just 100 for its population of 1.3 billion. In both countries, and across the world, underdeveloped charging networks remain a major hurdle to greater EV adoption, but it is not yet clear whether government subsidies or private investment will make up the shortfall.
Even discounting government timeframes, recent legislative proposals have been criticised for a lack of clarity. In Norway, there is confusion over whether the government’s proposed ban is really a ban at all, or rather a tax-based incentive scheme for drivers of EVs.
The UK ban, meanwhile, has been accused of lacking detail. “The announced goals so far lack the support of specific policy measures, even though some related legislation is emerging,” Mowat said. “The Automated and Electric Vehicles Bill, which would allow the UK Government to require the installation of charging points for electric vehicles at motorway service areas and large fuel retailers, is promising, but it is not clear if it will be implemented alongside the petrol/diesel ban.”
For more than a century, road transportation and the petrochemical industry have been interconnected. This cannot be undone overnight, or even in a few years. The broader economic implications of switching to electric vehicles need to be considered now, if we are to consign petrol and diesel cars to the scrapheap.
Swerving problems
Transitioning from petrol/diesel cars to electric vehicles will have huge implications for government revenues around the world, with taxable income from fuel sales certain to take a hit.
Fuel duty in the UK totalled £27.6bn ($36.1bn) last year, while the Norwegian Government reaped NOK 42.1bn ($5.4bn) in taxes related to petroleum activities. Similar stories can be found all over the world.
As existing revenue streams are disrupted, governments will need to identify alternatives that will remain relevant as the world moves away from fossil fuels.
Speaking to World Finance, Tony Seba, author of Clean Disruption of Energy and Transportation, suggested that a switch to taxing mileage, either via tolls or a more sophisticated vehicle tracking system, would enable governments to replace lost revenue.
“In the US, about $50bn in gasoline taxes will be lost by 2030, since 95 percent of miles will be electric,” he said. “However, governments whose budgets depend on this revenue could shift to taxing miles rather than fuel. Our model indicates that a one-cent-per-mile tax would raise about the same revenue as gasoline taxes: $45bn in 2015 growing to $63bn by 2030.”
An agile government could certainly mitigate the loss of tax revenues through policy changes, but new proposals need to be planned and debated now, not in a decade’s time. There is also the added complexity of how a weaker oil sector will affect a country’s imports and exports.
In the UK, there is concern that the government is not taking a holistic view of the economic disruption likely to be caused by electric cars. For example, the Office for Budget Responsibility’s current projections show revenue from fuel duty increasing up until 2030, despite this being at odds with the ban due to come into effect 10 years later.
Private entities will also need to prepare themselves for the oncoming disruption caused by the electric car market. Oil companies, which rely on road transportation for approximately 45 percent of their global demand, will face immense challenges, while battery manufacturers will be presented with a huge opportunity to enter the value chain.
“Our estimates indicate that oil demand will peak at 100 million barrels per day by 2020, dropping to 70 million barrels per day by 2030,” Seba explained. “Oil prices, however, will plummet to $25 per barrel as soon as the early 2020s. Persian Gulf countries such as Saudi Arabia, whose production mainly derives from low-cost conventional oil fields, will not see production volumes decrease by much. On the other hand, high-cost oil fields will be stranded.”
People will stop buying cars because it will be in their best selfish economic interest
The transition from petrol/diesel cars to electric vehicles will evidently present economic challenges to both public and private bodies alike. The best way to prepare for these difficulties is not to wait until some arbitrary year in the future, but to start considering how to replace existing revenue streams now.
Left behind
If electric cars are not economically competitive with petrol and diesel cars today, there are indications that the gap is narrowing. Worldwide sales of EVs grew by 60 percent last year, and the industry as a whole is predicted to be worth $731bn by 2027.
The average battery cost of electric vehicles has dropped 80 percent in the past six years, and industry innovator Tesla is aiming to achieve price parity with ICEs by the end of the decade.
There is a distinct possibility, therefore, that technological improvements, falling costs and shifting customer perceptions will see the EV market reach an inflection point much sooner than governments are expecting.
Car manufacturers may move away from petrol and diesel cars, not because politicians are forcing them to or to help the environment, but simply because it makes financial sense.
Predicting the precise year when EVs will become more economically viable than ICE vehicles is a difficult task, but as we have seen with other industries, including telecoms, entertainment and retail, disruption moves quickly.
Seba believes that the proposed bans on petrol/diesel cars represent a stunning miscalculation of the industry’s likely evolution over the coming years.
“By 2040 you will find petrol/diesel cars mainly in museums, nostalgia shops and racetracks,” he said. “Banning petrol/diesel vehicles by 2040 is like banning horse-drawn vehicles by 2040: there won’t be anything to ban.” In fact, Seba argued, a trifecta of disruptions, incorporating EVs, autonomous cars and a new transport-as-a-service industry, will leave automobile companies facing “an existential crisis”.
Under this new economic model, it will no longer make financial sense to continue producing petrol or diesel cars.
“The day that autonomous vehicles are approved by regulators, which we assume to be 2021, the cost per mile of on-demand autonomous EVs will be up to 10 times cheaper than the cost of purchasing a new individually owned petrol car,” Seba explained. “Every time in history when a new equivalent product or service has become available at about one 10th of the cost of the incumbent, there has been a disruption. People will stop buying cars because it will be in their best, selfish economic interest.”
In the early days of the 20th century, the fact that ICE vehicles were louder, spewed out pollutants and were more difficult to drive than electric vehicles didn’t stop them dominating the market. When mass-produced combustion engines and cheap oil became readily available, it was simply in the consumer’s economic interest to buy a petrol or diesel car.
With technological improvements driving the price of EV and ICE options closer together, the selfish economic choice and the environmentally conscious one are starting to look increasingly similar. Instead of looking to 2021, 2040 or any other time in the distant future, governments need to begin preparing now for the huge economic disruption that will accompany the EV revolution.
Green bonds: thinking strategically about climate change
When Lietuvos Energija, Lithuania’s state energy provider, issued a chunk of corporate bonds worth $354m last July, it broke several records. It was the first time a Lithuanian company had issued so-called ‘green bonds’, a relatively new financial instrument exclusively funding environmentally friendly projects.
The company’s green bond was also the first to receive the backing of the European Bank for Reconstruction and Development (EBRD), an international bank supporting infrastructure projects in Eastern Europe and Central Asia.
For many companies, issuing bonds with an environmental focus serves as a signal to markets and investors that addressing climate change is a key strategy rather than a mere afterthought. “Green bonds are a tool for corporate issuers that want to communicate how they are thinking strategically about climate change and whether they are investing to capitalise on the opportunities it presents,” said Manuel Lewin, Head of Responsible Investment at Zurich Insurance, a major investor in green bonds.
In an era of increasing concerns over the consequences of climate change, going green makes both environmental and financial sense, according to Darius Kašauskas, Finance and Treasury Director at Lietuvos Energija. “We have become part of the UN Global Compact, and in our strategy for 2020 we set clear goals for renewable energy production, energy efficiency and climate-resilient growth,” said Kašauskas. “At the same time, issuing green bonds fits nicely with our financial strategy and the group’s debt portfolio diversification targets.”
Green bonds attract an increasing pool of investors with green mandates. Lietuvos Energija’s bond received orders from more than 120 investors, encouraging the company to triple issuance from the initial target of $118m. The funds raised will support projects on wind energy, energy efficiency, waste and biomass fuel.
For its part, the EBRD has been issuing its own green bonds since 2010, so it was in an excellent position to help others do the same, and duly invested $35.4m in Lietuvos Energija’s bonds. “There haven’t been many green bonds in our countries of operation, so it was the first time the stars aligned,” said Charles Smith, Senior Funding Officer at the EBRD.
Taking root
Green bonds first appeared in 2007, when the European Investment Bank and the World Bank issued the first bond with an environmental focus. After a few years of modest activity, the market took off in 2013 with the first $1bn bond by the International Finance Corporation, the World Bank’s private sector arm.
That same year, EDF, Bank of America and Vasakronan issued the first corporate green bonds.
Although still a minuscule fraction of the fixed-income market, green bonds have grown exponentially from a value of $11bn in 2013 to $93bn in 2016. Big corporations have backed the trend too; Apple issued a $1bn green bond in June this year.
Bloomberg New Energy Finance forecasts issuance to increase to $123bn this year, while Moody’s predicts a staggering $206bn.
The market will keep growing, according to Beijia Ma, an equity strategist at Bank of America Merrill Lynch: “If you look at the climate investment we have to make up to 2030, there is a gap of between $650bn and $860bn annually, so green bonds could be a tool to mobilise private capital.”
Green bonds first appeared in 2007, when the European Investment Bank and the World Bank issued the first bond with an environmental focus
Green dragon
China was a latecomer to the green bonds market, but since joining, it has rapidly left everyone else behind. Last year, Chinese companies issued green bonds worth $36bn, accounting for around 39 percent of the market.
Research by the People’s Bank of China estimates that the country will need to invest at least $320bn annually in green projects by 2021. Only 15 percent of that capital will be provided by the government, opening up room for private investment.
This shift towards green finance has been approved by the government. According to Sean Kidney, CEO at Climate Bonds Initiative, an NGO promoting green finance: “China is one of the most vulnerable countries to climate risk. Shanghai, for example – a city of 20 million people – is in a lowland area, like the Netherlands. A major storm surge, and the whole peninsula would go down. The government has been made aware of this recently, so it made a decision to move to a green economy very quickly.”
The game-changer for China was implementing regulatory changes that boosted green bond issuance. “The market can change quickly. That happened last year with Chinese green bonds. They became a big part of the market because of the standards being developed in China,” said Miroslav Petkov, Head of Environmental and Climate Risk Research at Standard & Poor’s.
Greenest of them all
As a new instrument with little history and even less investor awareness, green bonds lack a universally accepted framework. What qualifies as ‘green’ is unclear, inviting criticism that some bond issuers have jumped on the green bandwagon solely for PR reasons, a practice known as ‘greenwashing’.
China’s entry into the market has exacerbated the problem, as Chinese standards deviate from European ones, according to Ma: “In China, clean coal could qualify as a green bond, whereas that is not the case elsewhere. And if you look at a lot of the bonds issued in China, some of the proceeds go to refinancing rather than actual green projects.”
In an attempt to address the problem, in 2014 a consortium of investment banks, issuers and investors launched the Green Bond Principles, overseen by the International Capital Markets Association (ICMA). The initiative has helped solve a key issue – monitoring where the money goes.
“Green bonds following the principles hosted by ICMA are especially attractive, given the transparency and accountability concerning the use of proceeds, which is designed to give markets confidence that the bond is serving relevant green purposes (see Fig 1),” said Nicholas Pfaff, Senior Director and Secretary to the Green Bond Principles at ICMA.
A number of benchmarks have also appeared to help investors make decisions. The Barclays and S&P Dow Jones Indices, for example, have both launched green bond indexes.
Before picking a green bond, investors often have to ask themselves whether the issuer has a spotless environmental record. But it is the direction of travel that matters the most, according to Lewin, whose employer Zurich Insurance has pledged to invest $2bn in green bonds.
“Education is important for companies that aren’t green poster children. Even if your track record is not perfect, if you follow the Green Bond Principles and we can see a clear strategy to address climate change, we can make some compromises. It doesn’t have to be the brightest of green, because that will come over time.”
Many investors believe that a lack of common standards hinders growth, but others think there are more urgent issues to tackle. “What matters more than anything now is urgency. We’re so far behind on our climate change goals that we are risking destroying any potential for future civilisation,” said Kidney.
However, international standards could help build bridges: “It would be a problem if we had too much national regulation, because a lot of this money is going to move internationally. The bulk of investment on climate change has to go to emerging markets, and the bulk of the money is in rich countries. If we had different systems, it would put a brake on growth.’’
Credit agencies have a role to play, too. Moody’s has issued a green bond assessment, while Standard and Poor’s has launched a green evaluation service.
There is hope that, at the very least, the market may reach a minimum consensus on what constitutes green in the same way that credit agencies came up with benchmarks to gauge credit risk.
Teething problems
Although the green bond market is growing rapidly, it still represents a tiny part of the overall fixed-income market. An increasing number of funds with green mandates have emerged, but their presence can have a distorting effect on liquidity as demand outstrips supply. These funds also tend to hold on to bonds longer than other investors.
This discrepancy between supply and demand has sparked a debate on whether there is a difference in yield between green and regular bonds. There is still no conclusive evidence on whether a green premium exists, but if there is one, it could harm the market.
Last year, Chinese companies issued green bonds worth $36bn, accounting for around 39 percent of the market
“A lot of institutional investors like ourselves would be forced out of the market if it became clear that there was a systematic green premium, particularly at issuance,” said Lewin. What’s more, issuance itself remains low. According to Petkov: “One of the challenges for issuers is that they don’t necessarily see the benefits of issuing green bonds in terms of low cost. There is an additional cost associated with issuing this type of bond, for example additional reporting.”
Exchanges could provide a solution to the illiquidity trap by raising market awareness and matching potential issuers and investors. In September, the Luxembourg Stock Exchange launched the Green Exchange – a green bond platform that already accounts for around 30 percent of the market.
But the ultimate weapon against illiquidity could be government action, according to Kidney: “The first thing governments can do to grow a market is to get demonstration issuance out to show others and provide liquidity. The poster child for this is France.”
Sovereign bonds
France’s issuance of an $8.3bn green bond in January was largely driven by the country’s desire to be seen as a leader in climate change policy.
“Our main objective was to address environmental issues, based on France’s position on COP21 and its chairmanship of the Paris Agreement,” said Anthony Requin, CEO of Agence France Trésor, a public body managing the country’s public debt. “In the wake of the conference, French authorities wanted to demonstrate that capital markets could help sovereign states finance their transition to a low-carbon economy.”
Providing liquidity was indeed the government’s main priority, added Requin: “This is precisely where sovereign states like France can make a difference on the green bond market. So, we structured this bond around the notion of liquidity, and ensured that our green bond would have the same liquidity as other French government bonds.”
Sovereign green bonds are a relatively new entry to the market (see Fig 2). Last December, Poland became the first country to issue green bonds, followed by France a few weeks later. Several emerging economies, including Nigeria, Morocco and Kenya, have similar plans in the pipeline.
As with corporate green bonds, however, investors have to tread a fine line to define what is truly green. In Poland’s case, critics pointed out that the country’s economy is still reliant on coal, while the government is sceptical of climate change. Some have gone as far as claiming that the bond will be used to release funds for fossil fuel projects.
Piotr Nowak, Undersecretary of State at Poland’s Ministry of Finance, dismissed these claims: “We have strictly stated that some businesses and projects cannot be eligible because of their own circumstances, policies and regulations, and are excluded from the use of green bonds proceeds.”
As with corporate issuers, however, the direction of travel might be more important than the current station. Nowak continued: “The Polish Government is not particularly green, but its green bond properly allocated assets to green investments, and had good disclosure around it. It also created an interesting internal dynamic. as many Polish companies subsequently contacted the ministry of finance to enquire about issuing their own green bonds.”
Unlike corporations, governments have to meet targets to reduce carbon emissions. Innovative financial instruments can help them do that by diversifying their investor base, as in the case of Poland.
“We experienced solid participation from green accounts that otherwise cannot buy our bonds because of their investment policies. Our green bonds attracted many new investors, especially those with green mandates,” explained Nowak.
Government intervention
Liquidity is just one area where government action is possible. Advocacy organisations such as the Climate Bonds Initiative support the adoption of ‘capital steerage’ policies that will help increase scale and reduce risks associated with green bonds. Proposed measures include tariffs, tax incentives, subsidies, green mandates for sovereign wealth funds, and green quantitative easing.
An expert group on sustainable finance set up by the EU is currently exploring some of these measures.
30%
of the green bond market goes through the Luxembourg Stock Exchange’s Green Exchange platform
For their part, many issuers welcome government intervention. “The EU and its members, as active participants in the Paris Agreement, could create some incentive systems for investors and issuers to embark on green financing more actively,” said Kašauskas.
However, it’s important to note that not everyone agrees with this approach. “This is a very diverse and dynamic market, with different types of investors and issuers,” explained Smith. “If you focus too much on policy, you could make it less diverse and more fragmented, and ultimately reduce the issuance potential.”
Different attitudes towards policy partly reflect cultural differences. The market in Europe and North America is largely self-regulated, whereas China and India have taken a more heavy-handed approach. India’s Securities and Exchange Board issued green bond requirements in May, while China is exploring providing tax incentives that would reduce funding costs for issuers and investors.
Chinese authorities helped the market grow, said Ma, but that does not mean the policy can be replicated elsewhere: “As with anything climate-related, you don’t want the entire market to be predicated on subsidies or financial incentives. Sometimes that happens in the initial stages of adoption, but in the long run you want these things to be able to stand on their own two feet.”
Another idea that has been floated is that green bonds could have different regulatory weightings, effectively reducing capital costs for issuers and investors. But, for many investors, drastic measures of this type would be a step too far. “What should not be done is tinkering with capital requirements, as some activists advocate. Introducing incentives on the demand side might have unintended consequences,” said Lewin.
Perhaps the least controversial policy is also the most feasible one: using green finance to fund sustainable infrastructure. A case in point is Mexico City’s new airport, which has launched a green bond programme that could reach $6bn by 2020, according to S&P Global. “Green bonds open up a larger pool of investors, and that attracts more resources to projects like ours,” said Ricardo Duenas Espriu, CFO at Mexico City Airport Trust.
Green future
The future of the green bond market depends on its financial viability. Optimists hope that, in the long run, the market will deem the greenest to also be the fittest, as companies that reduce their climate-related risks through green finance may also see their capital costs declining.
Incidentally, this could solve another problem facing the financial sector. “There is more capital now than at any time before in the history of the planet,” said Kidney. “Lots of that is in very low-interest instruments.
At the same time, we have to invest $50trn in green solutions over the next 30 years, so all we have to do is to match these two problems.”
For the time being, the market is full of high expectations. Citigroup expects the value of green bonds to grow to $1trn by 2020. This is also the target the Climate Bonds Initiative has set.
It’s not unrealistic either, according to Kidney: “If we double the market each year, we will beat $1trn. So, I’m not optimistic, but I am very hopeful.”
Non-bank financial institutions are disrupting financial services
At IBM InterConnect 2015, Citigroup’s then-chief client experience, Digital and Marketing Officer Heather Cox made a remarkable statement about the future of finance. “People need banking,” she told the crowd, “but they don’t necessarily need banks.” Two years after this statement was made, the case for finance without banks is even stronger.
Unless something truly radical happens to banking, banks will continue to play a role in personal finances for the time being. However, for standard transactions, current accounts or other services that get used everyday, new competitors in the market are making a compelling argument for customers to switch. It’s a space that has attracted interest from some of the giants in the technology industry, with unlikely names starting to compete for customers’ savings.
Soon, the idea of buying groceries at the same place that manages your finances or provides your internet may not seem so far-fetched. Banks may still have the advantage, but consumer willingness to take advantage of alternatives may have some banks worried.
New money
While banks have been concerned about the risks of rising competition for a long time, they may have been focusing on the wrong target. For many years, the common wisdom was that fintech would soon begin disrupting the industry, leeching away customers from the old, established players that are too big or unwieldy to keep up.
A good example of the threat posed to the industry was PayPal. Founded in 1998 as Coinfinity, PayPal launched in 2001, went public in 2002 and was swiftly purchased by eBay for $1.5bn. One of the success stories of the dotcom boom, eBay made PayPal its default payment option. On an internet rife with scams, used by a public not yet savvy enough to spot a con, the PayPal logo became a sign of legitimacy.
There is one major barrier that may stop Silicon Valley from pivoting to banking: acting as a bank also means being regulated as a bank
With this trust, transaction numbers surged, revenues rose and PayPal made a multitude of acquisitions. If it hadn’t remained a subsidiary of eBay until 2014, it may be even bigger than it is now. The threat of a company levering technology to pull off a similar feat has since loomed.
From international transfers to trading platforms, many competitors have emerged to tempt customers away from the core services that banks offer. This has become particularly prevalent in the UK where, following the introduction of regulations designed to increase competition, a number of challenger banks were launched.
Usually boasting an online-first focus, as well as no physical branches, they promised to offer services, flexibility and functions that the old establishment could not match.
But a new report has suggested that banks’ fears may have been misplaced. Recently released by the World Economic Forum, Beyond Fintech: A Pragmatic Assessment Of Disruptive Potential In Financial Services argues that banks have seen the potential competition from fintech very clearly and fought back admirably.
While fintech businesses have certainly pushed the industry forward and forced the entire sector to innovate, none have adapted enough to shake potential challengers.
What has emerged is competition from technology firms. Lacking their own expertise, tech companies have turned to companies like Facebook and Amazon to assist in the development of their own services.
At the release of the report, lead author Jesse McWaters said this alliance could create competitors: “The partnership between banks and large tech companies risks not staying a reciprocal one. Financial institutions increasingly rely on technology firms for their most strategically sensitive capabilities, but can so far only offer their ongoing business in return.”
The report brings up some specific examples, including Amazon, who provides services to businesses as varied as Capital One, Stripe and Nasdaq. It also mentions banks relying on networks like Facebook to support person-to-person transfers and customer analytics.
This experience, combined with banks’ lack of existing tech systems, could create an opportunity for technology companies to enter the market. “Tech giants would be able to pick and choose their points of entry into financial services, maximising their strengths like rich datasets and strong brands, while taking advantage of incumbent institutions’ dependence on them,” McWaters said.
Another factor that may push technology companies towards setting up their own division is that the public wants them to. According to a report released by Accenture in January, one third of banking and insurance customers would consider switching to an account provided by the likes of Google or Facebook. The card and payment industry is also primed for significant growth, presenting a large number of opportunities.
Morten Jorgensen, Director at Retail Banking Research, said the number of payment cards worldwide increased by eight percent in 2016 to 14 billion, with this trend only set to increase further. “By 2022, the number of cards worldwide is forecast to rise to 17 billion as many people, particularly in parts of Asia-Pacific and the Middle East and Africa, still do not hold a payment card.”
Jorgensen also explained that the way people are using cards is changing, with more people using them for far smaller transactions: “Of particular note is the 81 percent growth in contactless payments in 2016. Many of the barriers to expanding card usage are cultural, especially for lower value transactions and in locations where payments were historically made in cash. The latest figures suggest these cultural barriers are starting to break down.”
Facing opposition
While Facebook, Amazon or Google are unlikely to open a banking division in the immediate future, the impact that such companies are having on the industry is beginning to show.
Apple Pay was first introduced in 2014 and allowed people to use an iPhone in the same way you would a tap-and-go bankcard. Samsung introduced a similar system a year later.
This technology struck a sour note with banks in Australia, and in 2016, several of Australia’s largest banks – the Commonwealth Bank, Westpac, National Australia Bank and the Bendigo and Adelaide Banks – submitted a request to the Australian Competition and Consumer Commission (ACCC) to allow them to collectively bargain with Apple.
Specifically, the banks wanted to gain access to the Near Field Communication antenna in iPhones so that they could create their own competing digital wallets.
Apple firmly fought the claims. “Authorisation of a cartel among the applicant banks who control access to two thirds of all cardholders in Australia would result in significant consumer harm and perpetuate the oligopolistic banking market conditions,” Apple’s submission to the ACCC read. In March 2017, the ACCC took Apple’s side and ordered each of the banks to negotiate with Apple separately.
While it conceded that a collective agreement would place the banks in a strong position to negotiate with Apple, it ultimately ruled that such a situation would leave Apple at a distinct disadvantage to its competitors. The ACCC added that it would also benefit customers, as a digital wallet attached to a specific bank creates a disincentive for switching banks.
Amazon has also been flirting with the idea of entering the financial services market. The e-commerce giant launched Top Up in the UK at the end of August this year, a service that allows customers to transfer cash directly to their Amazon account through PayPoint outlets. Previously, in July, it had launched a similar service in the US called Amazon Cash.
Both services allow the company to access the small portion of consumers that do not have debit or credit cards. While money loaded onto Top Up and Cash can’t be withdrawn, the services are a step towards a traditional bank account.
Amazon’s foray into small business lending aligns it closer still with traditional financial institutions. Since 2011, the company has been looking at the data generated by small businesses that use Amazon Marketplace. The data allows Amazon to identify candidates for loans ranging in size from $1,000 to $75,000.
So far, the system appears to have been successful: Amazon reported it has issued $1bn in loans to 20,000 small businesses over the past 12 months, with more than half of the businesses agreeing to a second loan.
Amazon Marketplace affords the company an insight into businesses that banks are unable to gain, and so it is no surprise that Amazon’s lending experiment has been a success. This insight, combined with a strong incentive to help businesses that use its services, means that Amazon is in a natural position to confidently issue loans.
However, there is one major barrier that may stop Silicon Valley from pivoting to banking: acting as a bank also means being regulated as a bank. This presents myriad difficulties that may distract from the areas businesses lead in.
China may offer a glimpse of what’s to come. Fintech company Alibaba’s affiliate Alipay overtook PayPal to become the world’s largest mobile payments platform in 2014. Meanwhile, digital giant Tencent is offering a range of financial services through its WeChat messaging software.
Although it seems unlikely that technology companies in the rest of the world will soon be letting people open a current account, the gradual merging of technology and finance is inevitable.
Ana Botín: the most powerful woman in finance
It would not be a stretch to suggest that Ana Botín, Executive Chairman of Santander Group, is the most powerful woman in banking. When she took the helm in 2014, she was the first woman to chair a global financial organisation and one of only six women to lead a Fortune Global 100 company. A year later, she had a net worth of $150m, and last year she topped a Fortune list of the most powerful women in the world outside the US.
And of course, heading up a global behemoth is no mean feat. Santander now has a market capitalisation of $89.4bn and more than 100 million customers worldwide. It is also ranked number 33 on the Forbes Global 2000 list of the world’s biggest public companies.
As the fourth generation of the Botín family to lead the Spanish bank, however, suggestions of nepotism have at times clouded her achievements, undermining the steely reserve with which she now leads the global business and with which she helped turn the bank’s UK arm, once named ‘Britain’s worst bank’ in multiple customer satisfaction surveys, into a success story.
At times mirroring her father’s business strategies and at others moving deliberately away from them, Botín has had to forge her own path, embracing technology, supporting SMEs, resisting all but the most essential acquisitions, and shaking up the board to bring in fresh talent. And so far, this approach seems to be paying off: Santander’s global profits hit $4.2bn in the first half of 2017, marking a 24 percent year-on-year increase prior to the group’s acquisition of Banco Popular.
In particular, the formerly struggling Brazilian market has finally come up trumps, contributing 26 percent of Santander’s overall profits in 2016. Other subsidiaries are bearing fruit too, helped along by an aggressive cost-cutting strategy that has seen the bank reap rewards despite ongoing tough market conditions.
How Botín will continue to manage all of this as future challenges arise remains to be seen, but she’s in as good a position as anyone could hope for right now.
Billionaire background
Despite her family heritage, Botín has strenuously rejected the notion that her position was handed to her on a plate. She famously stated in a Time interview in 2004: “I started at the bottom. Nobody has given me anything.”
A quick glance at her family tree and CV, however, would suggest that her current position was no accident; as the only one of six siblings to go into banking, it’s not a stretch to say that she was chosen early on as heir to the Botín dynasty’s throne.
That said, she still had a lot to live up to. Her father, Emilio, built himself a formidable reputation as no-nonsense banker who transformed a small, regional name into an international giant, growing the company aggressively through a series of acquisitions which saw franchises in Brazil, Chile, Mexico, Argentina, the UK, Poland, the US and Germany all open in the space of two decades.
His strategy of buying and selling was undeniably the right one for the time; in 2007 he acquired Italian lender Banca Antonveneta, then secured a huge profit by agreeing to sell it on before the purchase had even been completed.
Botín’s mother, the Marquise of O’Shea, wasn’t without ambition either: she is a renowned pianist, a patron of the arts and the founder of one of Spain’s biggest music schools. Botín grew up in this environment of success and achievement, attending schools in Spain, France, Austria and the UK, and learning five languages in the process, almost as if she was being primed for the front line of international business.
But banking wasn’t always Botín’s ambition; she stated in an interview in 2014 that she had originally wanted to be a journalist. “I used to write articles at university about politics,” she told The Telegraph, two months before taking control of Santander. “I never thought I’d stay in banking forever – even now I might not. But I thought it would give a good perspective on all sectors and a broad view of the economy.”
In any case, her career path certainly seemed to set her up more for banking than writing. She studied economics at Bryn Mawr College in Pennsylvania, before moving on to Harvard and then undertaking an eight-year stint on the trading floor at JP Morgan in New York. Botín left the US in 1988, returning to Santander as a debt trader, then becoming Senior Executive Vice President in 1992.
1857
Santander was founded
188,492
Employees (2017)
3,928,950
Shareholders
12,235
Branches
$51.8bn
Revenue 2016
$26.9bn
Operating profit 2016
For the next six years, she led the bank’s expansion in Latin America, attempting to launch investment banking in the region – an area her father had generally avoided, preferring traditional retail banking – but the endeavour proved unsuccessful.
This period of Botín’s career is usually viewed negatively, but a few analysts see it differently. Among them is Mauro Guillén, Professor of Management at the Wharton School and author of a book on Santander.
“Most people are very critical about that period, but I give her a bit of credit because, although it didn’t make much money, it enabled the bank to gather research on all the different banks in the region,” he explained. “That laid the groundwork for a series of acquisitions in Latin America over the following five to seven years.”
Successful or not, in 1999 Botín took a break from banking and left Santander to found a private equity investment fund, Suala Capital, alongside a web consultancy called Razona. She has described this as one of the most rewarding periods of her career, in spite of how tough it was.
Crucially, the experience gave Botín a glimpse into the world of start-ups, and seems to have since shaped her future banking strategy, which has largely focused on technology and SMEs.
“Anybody who has run a small company has gone through such a hard time,” she told The Telegraph in 2012. “I have always built businesses – even back at Santander in the early 1990s I was helping to build the Latin American bank, creating new groups of people, hiring people – but [running my own business] was a totally different story.”
In 2002, Razona was bought out and Botín returned to banking, moving to Madrid to chair Banesto, a medium-sized Spanish lender that Santander had just taken over.
UK turnaround
Jumping forward eight years, in 2010 Botín was sent to London to take the reins at Santander UK, following António Horta-Osório’s departure to head up Lloyds Banking Group. This period proved to be the making of Botín, as she transformed the struggling UK arm into a profitable, well-managed business with 860 branches, 20,000 staff and 14 million customers. By the time she left in 2014, Santander had also grown into the UK’s second-biggest mortgage lender.
However, according to Guillén, much of this progress was already in motion when Botín arrived in the UK, and her real goal was to network. “She didn’t go there to run the bank. I’ve always said she was put in that position in London so that she could get acquainted with all of the owners of the bank. She’d been in New York, then Latin America, then Madrid running Banesco – the one thing she lacked was experience in London.”
But leading the bank in the aftermath of the biggest financial crisis in almost a century couldn’t have been an easy job, no matter what groundwork had been laid before Botín’s arrival. At that time, Santander UK was an amalgamation of three poorly performing building societies: Abbey National, which had been bought under Emilio for £9bn ($11.8bn) in 2004; Alliance & Leicester; and Bradford & Bingley.
Botín grew up in an environment of success and achievement, almost as if she was being primed for the front line of international business
“They had way too many systems and they had physical customers with different ID numbers across all of these different companies, so they had to consolidate everything into one system,” said Guillén.
The product offering was limited, the bank was suffering from both tightened regulation and a tough economic climate, and customer complaints were flooding in. To cap it all off, an annual customer satisfaction survey by JD Power & Associates named Santander the worst performing UK bank for three years in a row.
Botín was fully aware of the challenge she faced. “The strength of the Santander model is having a strong relationship with retail customers, and we don’t have that yet in the UK,” she told Fortune in 2012. She immediately set about reforming the bank’s management, shaking up at least two thirds of the top 120 staff members and widening the customer base.
Under her leadership, the bank pledged to offer bonus interest beyond the first year on its Santander 123 account, and launched an advertising campaign starring UK sporting icons Jenson Button, Jessica Ennis and Rory McIlroy to promote it. The campaign proved a success, with 2.7 million Santander 123 accounts opened by 2014.
The first couple of years brought further problems, however, with profits tumbling 40 percent in 2011 on the back of a £538m ($704m) charge over the mis-selling of payment protection insurance (see Fig 1). An anticipated £20bn ($26bn) IPO was halted in response. The following year, Botín’s plan to purchase 316 Royal Bank of Scotland branches, which had been fraught with delays, fell through, dealing her leadership a heavy blow.
It wasn’t all doom and gloom, however. In spite of the tough climate, the bank was consistently able to pay a shareholder dividend and, in 2011, Botín took home a pay packet of £2.2m ($2.88m), putting her among the best-paid female executives in the country. Customer complaints were also gradually declining – a clear sign that she must have been doing something right.
Tech approach
Arguably Botín’s biggest contribution while in the UK was her focus on technology, which was most apparent in her support for start-ups. Her biggest project was the Breakthrough programme, a $392m capital fund to help small firms develop into medium-sized enterprises. The strategy also included trade missions in New York and Brazil, as well as a programme to assist companies in recruiting talented staff from universities.
As the focus shifted to supporting businesses, the bank began cutting back on mortgage lending, despite the fact that SME lending required five times the amount of equity.
In any case, the approach, designed to rebalance Santander’s books, appeared to be working. By 2014, Botín had grown the corporate business by 80 percent a year for four straight years. She then further increased the stakes by launching a start-up incubator, offering free office space and funding for eight projects at Santander’s Liverpool base.
When Emilio died in 2014, Botín left Santander UK to take over the entire group. The move was well received, with her performance in the UK having laid to rest any lingering doubts about her ability.
“Ms Botín positioned Santander as a major provider of lending for small and medium-sized UK businesses, complementing the UK Government’s wider efforts to boost overseas trade,” said Simon Manley, UK Ambassador to Spain, in a 2015 interview with The Telegraph. She was awarded a damehood for her achievements, named a UK business ambassador, and, in July 2015, given a place in the Prime Minister’s Business Advisory Group.
Into the fire
With this wealth of experience and achievement, Botín stepped into the global breach. According to Guillén, the move was obvious. “It was clear she was going to take over,” he said. “The reason I say this is that the board of directors is dominated by people who wanted that outcome, and it still is, although a number of retirements are coming up now.”
Once again, Botín was thrown in at the deep end, with a host of challenges to contend with. Santander was still recovering from the crisis, compounded by a Spanish housing bust which had occurred two years earlier and meant 28.6 percent of the bank’s $77bn real estate loans in the country had been rendered non-performing.
But, true to her past, she managed to achieve positive results, not least with the Spanish subsidiary, which reported a net profit of €6.2bn ($7.43bn) in 2016. This marked a four percent increase year-on-year, and its best results since 2010. Its customer base increased by 1.4 million to reach 15.2 million, and shareholders were rewarded too, with dividends rising eight percent to €0.17 ($0.20) per share.
Mirroring her strategy with the UK arm, Botín didn’t hesitate to bring about changes at the top table. She replaced CEO Javier Marín with then-CFO José Antonio Álvarez, and appointed José García Cantera from Banesto as the new CFO. She also introduced three new directors, “putting her stamp on the business and showing what she wants to do,” a Madrid-based analyst told the BBC.
It was a strategic move, according to Guillén. “She moved in with her own team – she got rid of some people that she didn’t want there, but she kept enough people from her father’s team,” he said. “That was very smart, enabling her to have stability on the board of directors.”
Guillén believes she’s been taking the right steps in other ways too, moving away from her father’s strategy of growth by acquisition and towards a more organic type of development. “She’s still paying a dividend and she’s doing the kinds of things that need to be done – cutting costs, shutting branches, and selling assets. But she has clearly stated that gross figures are no longer the company’s focus”, he explained.
“The other thing is dealing with non-performing loans, especially in Spain, and I think she’s done a relatively good job. Look at the multiples of the book value that they’re trading at: it used to be around 50-60 percent, now they’re at twice that level. It’s still not enough, but it’s a huge improvement.”
Botín doesn’t insist on being referred to as ‘el presidente’ as her father did, and she doesn’t hold meetings at the extravagant complex he created
As with her UK tenure, Botín has shown an ongoing commitment to technology too, with a dedicated fintech fund – Santander InnoVentures – launched in 2014. The $100m fund was increased to $200m in 2016, and now has 15 firms under its belt, including several blockchain start-ups and new additions focused on analysing consumer behaviour.
These approaches clearly set her apart from her father, and she differs on a personal level too. People within the bank have pointed out a difference in taste: Botín doesn’t insist on being referred to as ‘el presidente’ as Emilio did, and she doesn’t tend to hold meetings at the extravagant Ciudad Grupo Santander complex that he created, instead opting for the bank’s slightly less ornate Madrid office.
Popular values
In June this year, it was announced that Santander would be buying struggling Spanish firm Banco Popular. Bought for the peppercorn sum of €1 ($1.20), the acquisition sparked a wave of comparisons between Botín and her father. Davide Serra of hedge fund Algebris told the Financial Times it was “the best deal in Santander’s history”, while former US regulator and board member Sheila Bair declared: “Emilio would be smiling broadly.”
Indeed he might, but the deal is not actually as classic an Emilio move as the media has suggested. Where he splashed the cash in order to push growth, his daughter’s goals are somewhat different.
Indeed, according to Guillén, the Banco Popular deal is more of a political move than a financial one: “I think essentially they’ve done it as a favour to Europe and the Spanish Government,” he said. “I don’t think they really wanted to do it, but I guess the assumption was that the largest bank should take over. I’m sure the European Central Bank and Spanish Government will thank her for a long time to come. Politics plays a role in all of this – it’s not just finance.”
Where things go from here remains to be seen. What’s certain is that there are significant challenges ahead for the entire banking industry. Major players will have to juggle older customers who still demand physical branches and a younger crowd demanding digital-first banking.
They’ll have to deal with fewer mortgages on the back of a generation forced to rent, while guiding the UK arm through the complexities of Brexit. On top of all this, Botín will have to continue filling her father’s substantial shoes, sustaining what is a family empire in all but name, while dealing with an underperforming US arm.
That said, a powerful mix of past success, a keenness for embracing innovation, and a willingness to face challenges head-on suggests that Botín will rise to the challenge and guide Santander into the future. It’s going so well right now that if she does, the bank will be thanking her for decades to come.
How using psychology in the finance sector is improving investors’ gains
“The investor’s chief problem – and even his worst enemy – is likely to be himself.” So wrote 20th-century American economist Benjamin Graham, in what has become a source of inspiration for many investors including Warren Buffett, and a statement that resonates strongly in the current environment.
In the words of Béatrice Belorgey, CEO of BNP Paribas Banque Privée and Chair of B*capital: “In an environment marked by persistently low interest rates, the search for yield translates into greater investment in equities. Investors want higher yields, but they don’t want to take on more risks to achieve them.”
At the same time, more frequent periods of instability and high volatility in equity markets create a strong aversion to risk. In such a situation, decision-making is likely to be more emotional than rational. Investors can become more reactive to short-term events and lose sight of their long-term goals. They are guided more by market events than by their priorities.
“That’s why it’s so important to provide each of our clients with comprehensive guidance. This obviously includes financial expertise, but also an awareness of behavioural finance,” Belorgey explained.
Classical financial theory assumes that investors are rational. But a rational investor – one who makes decisions without any emotional interference – exists only in theory. In reality, every individual’s decisions and risk-taking behaviours are influenced by their own psychology, emotions and personal experience.
Human psychology has a major impact on investor behaviour. According to Dalbar, recent studies have suggested that it has a negative impact of around three percent on portfolio performance. That’s enough to double your initial investment over 20 years.
Investors experience highly variable emotional states. They can go from optimism or enthusiasm to despondency or panic. And rapid phases of market acceleration or deceleration only accentuate investors’ emotions and psychological states. Therefore, knowledge of an investor’s psychology can help everyone be more clear-headed and seek investment objectives with greater calm.
This is what is called ‘behavioural finance’, or the application of psychology to finance. The field took off with the development of prospect theory in 1979, by American psychologist and economist Daniel Kahneman, winner of the 2002 Nobel Prize in Economics, in collaboration with psychologist Amos Tversky.
Active bias
It is important for an investor to be aware of behavioural biases so they can attempt to limit them and become more capable of achieving their objectives, especially in terms of risk taking.
Such biases are numerous, but we can nonetheless name a few that should be familiar to almost everyone. One bias is resistance to change, which drives investors to see any new development as an additional risk factor, even if it is positive. Another is regret aversion, where investors restrain from taking action out of fear of making a mistake. These two biases diminish the investor’s capacity for response and can hold them back from seizing opportunities that present themselves.
A rational investor – one who makes decisions without any emotional interference – exists only in theory
Recency bias reflects the natural tendency to only look at recent market performance. The risk in this case is drawing hasty conclusions based on the results of the past several days instead of analysing long-term trends. There is no shortage of examples; the first half of 2016 was a perfect illustration.
The sharp declines in the European financial markets that were triggered in January and again in June probably led many investors to reduce their exposure. However, a longer-term analysis concluded that it was merely a temporary interruption in a long-term upward trend.
Behavioural biases also tend to increase the risks taken by an investor by reducing their financial market diversification. Several types of bias can be seen: an investor may have the tendency to reduce their positions during market troughs due to fear, or the opposite may occur with investors who exceed their habitual risk tolerance out of a sense of euphoria during market upswings.
Both are examples of excesses that expose investors to damage in the event of a trend reversal. In the first case, the investor loses an opportunity. In the second, they greatly increase their risks.
These two tendencies may be compounded by home bias, which drives investors towards the securities and strategies they know best. The same goes for overconfidence and the illusion of control, which lead investors to concentrate their assets in just a few positions or considerably increase the weighting of a specific security. Finally, the fear of missing out on gains is often a poor companion, as it leads to making hasty, and ultimately untimely, decisions.
Box/prospect theory
All investors want to avoid losing money. However, they tend to sell winning positions too early and miss out on substantial growth opportunities. When a stock begins to rise in value, the initial sense of satisfaction is strong but does not increase in proportion to the stock’s growth. Instead, the fear of seeing unrealised gains falls back to zero and creates a very strong feeling of unease. Investors are therefore tempted to sell too early.
The reverse can also occur. At the beginning of a downturn, when losses are around 10 to 15 percent, the sense of unease is strong. In fact, it is stronger than that felt during an upswing, as investors find it difficult to accept the situation.
They lose their clear-headedness and cling to the hope that the stock will recover, even if all the indicators are flashing red. Selling at a loss is a hard pill for any investor to swallow.
But, by the time the loss becomes significant, the psychological consequences of further declines take on a different character. Investors think it is too late to sell and passively hold on to the security. If the stock does return to its purchase price, the investor’s relief will drive them to quickly sell, even without a profit.
Psychological effects
Behavioural finance is particularly important when it comes to arbitrage. Investors must always be ready to balance their portfolio, selling the least promising stocks in order to buy those with the greatest potential. There are several psychological biases that hinder effective arbitrage.
In an equity portfolio, it is easier to find new stocks to buy, as the selection is broad. Selling, on the other hand, is more difficult. When an investor decides to sell, they unconsciously demonstrate the endowment effect, which is the natural tendency to ascribe more value to what one owns.
Thus, the investor subjectively attributes a higher value to the security they hold, leading to a different arbitrage result than planned. If the security then enters a downturn, the investor risks retaining an underperforming position. This is especially problematic when combined with the expectation of achieving returns that are no longer attainable. It is rather like a gambler who keeps playing and losing money while believing they will win it back.
If one is aware of this bias, it may be counteracted by reversing the formula. In other words, the investor should imagine they do not hold the share in their portfolio and ask themselves if they would buy it at its listed price. If the answer is no, then they have no reason not to sell it.
“In the current environment, behavioural finance has become indispensable for investors, and therefore for private banks,” Belorgey explained. There is no miracle solution. In the case of advisory management, the private banker plays an essential role. Because they know their client and the strategy they have put in place, they can help them steer clear of such ‘natural’ reflexes.
“Our employees have already been broadly aware of behavioural finance for several years now, thanks to our stock market specialist B*capital,” said Belorgey. “We are in an active coaching phase, speaking to each employee individually in order to optimally integrate behavioural finance with the customer relationship process.
Our goal is to apply this knowledge in the personalised relationships we maintain with each of our clients, as we believe that behavioural finance is as important to the customer relationship as financial expertise.
“To further explore the subject of behavioural finance, we have also organised conferences at private banking centres to help clients identify behavioural biases. This approach is supported by a series of videos accessible on the websites of BNP Paribas Banque Privée and B*capital,” Belorgey added. “They help illustrate the importance of understanding investor psychology, and teach investors about the biases they commit and that they need to overcome.
“The videos are organised around specific themes, such as how to invest, remaining well-diversified, effective arbitrage, monitoring trends, and contrarian investing. We’ll soon be launching a dedicated mobile app to round out support for our clients in the area of behavioural finance. This initiative fits into our broader digital banking approach.”
Saudi Arabia’s $500bn mega-city aims to boost economic diversification
On October 24, Saudi Arabia revealed a proposal to create a $500bn mega-city connecting Jordan and Egypt. The 26,500sq km urban business zone, which will be more than 12 times the size of Tokyo, has been named NEOM. It will be powered entirely by renewable energy.
The NEOM project was announced by Saudi Crown Prince Mohammed bin Salman during the opening of a three-day international business conference. Among the 3,500 attendees were the CEOs of JP Morgan, Siemens and other high profile firms.
The city will form part of a push within the conservative country to reduce its reliance on oil revenues and encourage the development of a broader spectrum of private industries such as biotech, entertainment and advanced manufacturing.
The city will form part of a push to encourage the development of a broader spectrum of private industries
In order to complete NEOM’s first phase by 2025, potential investors have already been contacted and the sale of state-owned assets is gathering pace. Furthermore, the government recently announced that strategic foreign investors would now be allowed to own more than 10 percent of any listed Saudi company.
“[NEOM] is not for conventional people or conventional companies, this will be a place for the dreamers for the world,” bin Salman declared. “The strong political will and the desire of a nation. All the success factors are there to create something big in Saudi Arabia.”
During his speech, bin Salman held a smartphone up to the crowd alongside another more basic device, with the aim of showing how NEOM will be viewed when compared with other cities.
With oil prices remaining at low levels, the government in Riyadh will need its diversification plans to be successful so that the old phone in bin Salman’s metaphor doesn’t come to represent the struggling Saudi economy.
The threat of water scarcity looms large
“Water, water everywhere, nor any drop to drink.” In Samuel Taylor Coleridge’s famous poem The Rime of the Ancient Mariner, a sailor finds himself trapped in the middle of the ocean, dehydrated and surrounded by useless salt water. Today, we are faced with a similar problem globally: while about 71 percent of the Earth is covered by water, there is a troublesome mismatch between where water is and where it’s needed.
The effects of water scarcity can be catastrophic – so much so that, since 2012, the World Economic Forum has rated water crises among its top three global risks in terms of impact, ranking them alongside weapons of mass destruction, climate change and the outbreak of infectious disease.
The threat of scarcity is a growing one, exacerbated by an expanding population and developing countries forming consumption habits in line with those the western world has set.
The UN’s 2017 World Water Development Report (WWD report) projects that demand will increase by approximately 55 percent by 2050, driven by a 60 percent global increase in food demand, along with a 400 percent increase in demand for water in manufacturing from developed countries.
Climate change also alters water cycles, causing droughts and famine. If left unchecked, the growing competition for water resources will lead to mass migration, escalating political tensions and massive upheaval in industry.
Water pressure
The severity of global water scarcity was brought into sharp focus by a paper published last year by researchers at the University of Twente. Their findings were bleak: around four billion people, almost two thirds of the world’s population, experience severe water scarcity for at least one month of the year, with roughly half a billion living with constant water scarcity.
Analysis of data collected over the past 60 years is now underway to determine whether demographic shifts in recent decades have compounded the problem.
While this research is not yet complete, Richard Hogeboom, a scientist involved in the study, confirmed in an interview with World Finance that the situation has indeed escalated: “Water scarcity has worsened over time and a lot of irrigation draws on water that should be left in rivers to support ecosystems. We draw it from aquifers where it has collected for sometimes thousands of years, and we pump it up in a few decades. We are living beyond our means, but how long exactly we will be able to maintain that, or if we have found any technological solutions in the meantime, is hard to say.”
The causes of increasing water scarcity are varied, and while it is tempting to chalk the problem up to yet another unpleasant facet of climate change, Hogeboom stressed that warming temperatures are only part of the story.
A country like China used to be an exporter of virtual water, but if their national consumption goes up, they will not continue to export it. That will cause major geopolitical tensions
“The drivers are mainly an increase in population, since population grows quicker than climate change. But also as living standards improve, the consumption patterns of people change. As people become more affluent they have changing diets, and the expansion of aggregated agriculture is a big water demand driver,” he said.
The problem is made worse, Hogeboom explained, by communities importing more food and depending less on their immediate environment for resources. “That’s more or less coupled with when global trade emerged,” he added.
While many countries have so far avoided the grave effects of water shortages, the acceleration of scarcity means this will not remain the case for much longer.
Growing competition, growing concerns
The severity of a water disaster is largely due to water’s necessity for basic survival, but it also runs through the core of economic prosperity – a link that was explored in the 2016 edition of the WWD report. The report found that a sizeable chunk of the global economy is threatened by scarcity, with almost 80 percent of the world’s population employed in jobs that depend on water.
Growing competition between water users and water uses will lead to uncomfortable questions about how water is allocated. One industry that will come under scrutiny is power generation since, as Hogeboom pointed out, the water footprint of electricity varies considerably by production method.
“The International Energy Agency drafts these policies that are focused on reducing CO2, but they don’t look at water at all. Even though with hydropower, for example, you have a big loss in terms of evaporation from the reservoir. Biomass may also be one of the so-called green sources of energy, but it will have to compete with food production, so I don’t see much future there,” he said.
Worse still, according to Hogeboom, pressure on water resources will not only lead to competition between humans and industry, but also among countries.
“If populations keep growing and living standards go up as we expect, then I think there will mainly be competition between growing food for local consumption or for export,” he said. “Here in Europe, we have a lot of water available and a lot of natural resources, but still we import most of our food, therefore we also virtually import our water from areas that are often much more water scarce than we are. A country like China used to be an exporter of virtual water, but if their national consumption goes up they will not continue to export it. That will cause major geopolitical tensions.”
The global problem
Like many environmental issues, the causes and consequences of water scarcity are not shared equally: while the water-intensive consumption of rich countries creates much of the problem, the results will be worst-felt in developing economies.
The WWD report cites vulnerable hotspots of water-related stress in countries throughout Africa, Latin America and the Middle East and describes how the effects can already be seen in the Arab region, where unemployment trends have worsened as a result of low agricultural yields.
However, this does not mean rich countries will escape unscathed, since they also face a raft of problems in the form of creaking infrastructure buckling under the pressure of sprawling urban populations.
Percent of wastewater that is treated
High-income countries
70%
Upper middle-income countries
38%
Lower middle-income countries
28%
Low-income countries
8%
Investing in water: Comparing utility finances and economic concerns across US cities, a recent report authored by Joseph Kane, an associate fellow at the Brookings Institution, examines the water challenges faced by wealthy countries in the context of the US. In an interview with World Finance, Kane described how, despite being one of the richest nations on Earth, the US has failed to keep pace with water infrastructure investment.
“The water infrastructure challenge is a very big nut to crack, and it’s not limited to drinking water infrastructure: there are also significant wastewater and stormwater challenges, to say nothing of the resilience challenge when it comes to various climate concerns,” he said. “Across drinking water and wastewater needs alone, the Environmental Protection Agency estimates that $655bn in investment will be needed over the next 20 years. There are other estimates, but they all point to a need that runs into the hundreds of billions, if not trillions, of dollars.”
Renovating sewage infrastructure may not be the most glamorous political campaign promise, but scrimping can prove extremely costly, as was grimly demonstrated when the lead poisoning scandal unfolded in Flint, Michigan in early 2016. A toxic combination of ancient pipes and untreated water caused lead to seep into the water supply of more than 100,00 residents, including almost 12,000 children, in a grisly reminder that it does not pay to ignore water infrastructure.
As Kane put it: “Unlike other types of infrastructure, you really can’t kick the can down the road. [People] have to have reliable, safe, systems pretty much 24/7. The challenge can’t wait.”
Waste not, want not
Discounting famine or major catastrophe, the world’s population will not start shrinking; water supply is set to be spread ever thinner, and ageing »
infrastructure will crack under the strain.
Globally, a funding injection is needed to overhaul infrastructure and partly solve the shortage issue by making better use of wastewater.
The 2017 WWD report is devoted entirely to the issue of wastewater and highlights its potential use as a freshwater alternative in manufacturing, but also details the significant work this will require. The report estimates that while high-income countries treat 70 percent of wastewater, this drops dramatically in less wealthy countries. In upper and lower middle-income countries, only around 38 percent and 28 percent respectively is treated.
Worse still, in the poorest countries, the figure stands at about eight percent, with the rest released back into the environment as raw sewage.
While rich countries may treat wastewater more effectively, they are guilty of plenty of needless waste, as Hogeboom pointed out: “We’re wasting a lot of water in agriculture. By simply using more efficient irrigation strategies, we can reduce many of the problems we have.
“And the same for industry – we have the technological knowledge to go through closed loop systems, so industry should not have any water consumption. If water goes into the factory for cleaning, or cooling, or whatever, you should be able to get the same water out.”
The water infrastructure in rich countries is also often decades old, and funding costly renovations has proved difficult. This problem is acute in the US where, according to Kane, the responsibility for financing sewage systems falls mostly to governments at state level.
Kane told World Finance: “One statistic to bear in mind is that states and cities are responsible for more than 95 percent of spending on water infrastructure. It’s really cities and states that are doing the heavy lifting here, but that is not easy because they are dealing with an assortment of other infrastructure and financial challenges, often with heavy debt loads.”
Under tight budget constraints, governments are forced to radically rethink funding options, and charging more for water services is simply not a viable solution, according to Kane: “Certain water utilities, for example in Washington DC, San Francisco or Philadelphia, are experimenting with new ways of setting rates, in lieu of any federal leadership.
“By and large, across the country, many people are using less water as they’re becoming more efficient. Utilities are facing a pinch to increase their rates based on lower volumes of use, which is leading to the affordability challenge.”
While smart sensors may help save some money by allowing authorities to foresee future issues rather than dealing with the expensive results of a crisis in hindsight, the gap in funding remains and may have to be plugged, in part, by the private sector. Investors are already circling over the profits to be made from water scarcity, with funds that bet on the cost of materials in water-dependent industries already cropping up.
While many of these funds invest globally, the scarcity issue in the US is such that the largest of these, the PowerShares Water Resource Portfolio, with over $804m assets under management, is US-focused.
However, infrastructure investment may prove less attractive, according to Kane: “The challenge is where is there going to be a durable financial return for a private sector entity, given the fact that many localities are already struggling to increase the rates that they’re charging their customers.
“A lot of these projects are untested, from a long-term perspective, on how they pay off, so it does require a bit of ingenuity and experimentation on the part of cities to take on those projects, rather than continually investing in traditional grey infrastructure.”
The water shortage problem may be stemmed for a few generations if global industry can adapt to using wastewater, but in the meantime this solution and the finance to implement it seem oceans apart.
Former HSBC banker convicted of fraud in foreign exchange scheme
Mark Johnson, former head of global foreign exchange cash trading at HSBC, has been convicted by the US Department of Justice for devising a scheme that cheated a client out of millions of dollars in a practice known as front running.
The case has been closely watched by currency markets, with the ruling likely to have a significant impact on the industry. It marks the first time an individual has been prosecuted on charges related to foreign exchange rigging, and is part of a broader crackdown from US and UK authorities on manipulation of the foreign exchange market.
Bankers from JP Morgan, Citigroup and Barclays are currently awaiting trials on similar charges, while Stuart Scott, Johnson’s former colleague, will hear from the UK magistrate’s court later this week on whether he will be extradited to the US.
The court case is part of a broader crackdown from US and UK authorities on manipulation of the foreign exchange market
The scheme in question dates back to late 2011, when Cairn Energy, a UK oil and gas company, hired HSBC to carry out a foreign exchange transaction that would convert $3.5bn into British pounds.
According to US authorities, Johnson executed the trade in a manner that drove up the price of the pound and tipped off colleagues so that they could purchase pound sterling using their HSBC proprietary accounts, benefitting the company at the expense of a client.
He reportedly tipped off colleagues using code phrases such as “my watch is off”, as quoted in the Financial Times. Between Johnson and the other traders involved, the scheme racked up an illicit profit of over $7m for HSBC, and indirectly served the individuals involved by boosting their bonuses.
Johnson was also accused of misrepresenting the self-serving nature of the HSBC traders’ activities relating to the trade. His defense, that his actions were a standard industry practice called pre-hedging, was rejected by the jury.
He was found guilty of eight counts of wire fraud and one count of conspiracy to commit wire fraud
Inspector General Lerner commented: “Such cases are challenging, but important, to bring against bank insiders who misuse their positions and undermine the integrity of a major international financial institution.”
Johnson faces up to 20 years in prison, with official sentencing yet to take place.
The magic touch
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How Banco de Crédito e Inversiones is making the most of technology in the banking sector
Over the past decade, a technological revolution has swept through Chile’s financial system. Today, roughly 7.5 million Chileans use online banking, meaning that B2B transactions no longer hold such a vast share of the country’s total demand for financial services. This is largely due to the rise of new technologies such as smartphones and tablets.
In 2012, Banco de Crédito e Inversiones (BCI) found that 43 percent of customer transactions were made digitally. Today, that figure is 63 percent, indicating a remarkable shift away from traditional modes of banking and a rising demand for personalised, fast, multichannel solutions.
With the gap between customers and companies becoming narrower, innovation will be the difference between sinking and swimming. As such, many businesses are investing in fintech for their front-end operations, which can range from basic mobile apps to complex automated chatbots. Meanwhile, back-end development is proving just as important for companies to get ahead of the curve.
For example, many recognise that a user-friendly website interface is wasted if the business is inefficient in handling customer requests. In this new landscape, BCI has radically overhauled its customer service processes, both in customer-facing areas and behind the scenes.
Milestone year
BCI’s vision for 2020 is to become the most preferred and beloved bank in Chile, and to earn a reputation as a regional leader in innovation, customer service and professional development. The digital revolution offers both opportunities and challenges in pursuing these objectives.
Customer-focused innovation requires the bank to constantly fine-tune its experience strategy in order to support and react to the demands of current customers, whose expectations are continually rising as they become better informed and increasingly digitalised.
With the gap between customers and companies narrowing, innovation will be the difference between sinking and swimming
Significant progress has already been made thanks to BCI’s rapid response to changes in the market. Most notably, the creation of new management structures to oversee digital innovation offers an unprecedented degree of focus on innovation, digital marketing, social networks and IT. In 2016, the backbone of BCI’s approach was a six-step digital transformation programme that amounted to a thorough overhaul of its customer service operations.
One of our most significant reforms was the introduction of BCI Labs, an accelerator that helps start-ups become company suppliers. In 2016, we held three demo days that were attended by start-ups from 10 countries, and ultimately encouraged 16 companies to sign up.
Alongside these efforts to nurture new talent, BCI has also sought to add value in existing commercial areas by developing more effective ways to communicate with customers. In pursuing this goal, the bank has introduced new digital marketing and social networking tools that are tailored to new customer paradigms and behaviours in the digital age.
Last year, BCI even created a new social network management system that is designed to boost the bank’s involvement in customers’ lives, and to help BCI listen to and interact with digital communities.
A third milestone for 2016 was the implementation of new customer relationship management (CRM) systems that are equipped to make campaigns in the retail and SME sectors more commercially effective.
Since data analysis was a fundamental aspect of these operations, their effectiveness depended partly upon the bank’s wider reforms to its IT systems. Specifically, BCI invested in logistics by bolstering organisational design, hiring new digital talent, and developing new working techniques in key areas of its business.
These back-end reforms to professional services were supplemented by larger changes to the bank’s customer journeys, which are step-by-step systems that plan a route for each customer through their interactions with BCI, from their first contact to their final departure. Last year, we launched two new journeys, each of which was designed to improve the customer experience.
The first was the online checking account plan, which, by December, had seen an increase in applications to 5,000 per month. The second was based around proposals, allowing them to be managed through a simple web process that enabled customers to bring whatever consumer loans they had with other banks to BCI. Besides simplifying the user experience, these lean, omnichannel processes have also boosted employee productivity, reduced customer leakage and cut operational risk.
Finally, one of the most significant milestones reached in 2016 was an adjustment to BCI’s internal management methods. This was informed by an internal survey that gathered employee insights on the climate at BCI. It covered five key areas that, along with a collaboration and leadership evaluation, represented the critical organisational competencies that employees and managers must possess when developing a digital culture.
From there, BCI introduced six new organisational competency goals, which included its customer-focused strategy, collaborative work ethic, lean execution, integrated leadership, open innovation, and its investment in committed, transparent people.
Social future
The goal of this redesign was to encourage teamwork, innovation and execution within the bank. It also carried an element of future-proofing, as it made BCI’s gauges more practical and predictive. Furthermore, the management adjustment has enabled the bank to bolster its commitment to developing leaders that are both agile and operate in line with the firm’s core values.
The fostering of such a robust internal culture will ultimately develop the individual and organisational competitive advantages that BCI needs for a successful digital transformation. This investment in leadership is particularly important, because the digital shift itself starts with people.
So far in 2017, the bank has continued to develop its experience strategy, placing particular emphasis on customer journeys. It hopes that soon, every customer interaction will be incorporated into a new journey, thereby streamlining and ultimately stimulating business interactions more broadly.
Meanwhile, BCI is bolstering its existing IT infrastructure by improving cybersecurity across the bank, and by investing in new fintech solutions where needed.
7.5m
Chileans use online banking
63%
of BCI’s customer transactions are made digitally
Beyond these conventional approaches, BCI also hopes to strengthen its various ecosystems by making them more interconnected. For example, it is currently developing a new open innovation programme as an extension of the burgeoning ‘labs’ initiative.
By working alongside consumer-intensive companies in this manner, BCI hopes to create new solutions that complement the existing journeys structure. To speed up the process, the bank is also launching API development platforms, further reflecting its confidence in a digital future.
To participate in the digital community, BCI’s incorporation of new technologies goes beyond conventional modes of marketing and brand cultivation. The bank’s heavy investment in providing the best customer experience reflects its desire to attract new customers and to detect issues and trends in order to meet the needs of the market in real-time. Consequently, social networks are becoming fundamental to its future plans.
Proactive networking
The social network management department hopes to set the bar in this new way of banking by developing initiatives that will enable BCI to reach out to virtual communities. In this way, we hope to become renowned for promoting a collaborative economy, while also providing a strong sense of identity and differentiating digital relationships with our customers.
One such initiative is the bank’s provision of financial education via social media channels as part of its wider commitment to socially responsible growth and personable customer service. It also hopes to provide the business community with information gathered from BCI’s interactions on social media, and to thereby support the development of new products and services.
Additionally, by making proposals to customers through social networks, the bank aims to further support the design and execution of customer journeys that are tailor-made to new technologies and digitalisation in general. This will, in turn, be supported by the social CRM system that was designed in 2016, which provides information about markets, audiences and trends in both products and services.
Finally, the bank’s existing corporate campaigns will be extended through innovative competitions and promotions that are tailored to digital and social formats.
As BCI further capitalises upon social networking and digitalisation, it will bolster its online monitoring processes with panels and alerts that safeguard the bank’s reputation for providing continuous service and for tapping promising business opportunities.
All these points of focus put BCI’s customers at the centre of its operations, and will provide a sustainable model that is based on continuous improvement, driven by a proactive response to the wider digital revolution.
Few companies in Chile have seen as much success as BCI, which is currently celebrating eight decades as an outstanding contributor to the country’s economic and social development. In the context of BCI’s 80th anniversary, Chairman Luis Enrique Yarur is proud to say that the bank will continue to grow in both the international and digital landscapes in decades to come.
Such development will always be in line with BCI’s core vision and values, which involve putting people at the heart of all its activities and generating shared value in a fair, equitable way for all its stakeholders. This is what makes BCI unique, and it is why we are different.
MiFID II: how the financial sector can learn from low-cost airlines
In order to fully understand the consequences of the Markets in Financial Instruments Directive (MiFID II), the financial services sector should look to other industries to learn how best to anticipate change and prepare in advance.
The complex framework is due to come into effect in 2018 and will likely have far-reaching and wide-ranging consequences in the financial world. Amid ongoing uncertainties and concerns about the challenges posed by implementation and compliance, drawing parallels with other sectors and industries is a useful tool for gaining valuable insight ahead of the looming deadline.
The airline industry can be a source of inspiration for the financial services sector as it prepares for yet another regulatory overhaul in the form of MiFID II.
Taking to the skies
Earlier this year, British Airways removed complimentary food and drinks from its short-haul European flights. CEO Alex Cruz decided that removing the complimentary service in an environment increasingly dominated by low-cost competitors was the best way to improve profitability and maintain price competitiveness. The changes were not received well by BA customers, with both leisure holidaymakers and corporate frequent fliers up in arms about the loss of the service.
Changes such as this are part of a larger trend in the airline industry’s unbundling. Unbundling began with the removal of complimentary items like checked-in baggage and exit row seat selection, but has evolved to cover almost any service traditionally included in the ticket price, from on-board food and drink services and seat selection to boarding order and the number of carry-on bags.
Unbundling began with the removal of complimentary items, but has evolved to cover almost any service traditionally included in the ticket price
The strategy has been pioneered by low-cost airlines as a way to create the lowest ticket price for consumers who want to get to reach destination without any frills. Reducing included services is one of the pillars of the low-cost model, and legacy carriers have been struggling to maintain price competitiveness while continuing to offer the standard of service their customers expect.
Naturally, these changes have had an impact on ticket pricing, with legacy carriers reducing their core route prices year after year to compete in a market which is driven by the lowest advertised price. While flyers are reluctant to praise these price reductions, they are quick to complain about the removal of services. From a frequent-flyer perspective, flights lose a great deal of their appeal. For leisure travellers, the downgraded service quality could be the final nail in the coffin that drives holidaymakers to cheaper carriers.
Airline passengers, however, are not the only ones subject to such unbundling. As part of the new MiFID II legislation, banks are also on the verge of unbundling previously free research services.
Comparisons with the financial sector
Albeit driven by a completely different force, namely the regulatory requirements of MiFID II, the investment and asset management industry is also dealing with unbundling. As part of the regulations, which take full effect from 3 January 2018, portfolio managers and buy-side professionals are barred from accepting free research insights as this could be viewed as an inducement under the terms of the MiFID II regulations. The new legislation imposes stringent conditions on clients paying for research, and requires the use of a dedicated Research Payment Account to allow for a buy-side client to select the quantity of research and focus coverage as they find applicable.
The implementation of these new rules has not been simple, with major initiatives being taken to ensure all participants adhere to the changes. Sell-side firms have been sluggish to implement the necessary changes as they also seek to implement numerous other global regulations which have come into force in the last few years. Going forward, buy-side firms are likely to be reluctant to start paying for a service which used to be complimentary.
Fundamentally, sell-side institutions work as a gift economy. They provide research, introductions to CEOs, trade ideas and informal advice in the hope that buy-side institutions will later pay them to execute trades or structure deals. This is not to say that research is entirely free, but the payment mechanism is entirely at the buyer’s discretion. Funds are allocated to research and the buyer chooses how to allocate those funds among the organisations that provided research content. In other words, banks provide the advice and are only paid if the buyer believes it was worthwhile.
MiFID II rules are about to disrupt this relationship. Not only will buyers pay in advance for advice without knowing how to value it, but advice will need to be fully costed and not provided at its current discounted rate.
The next step
There is speculation as to the effect this will have on the relationship between the buy side and sell side, and whether there will be a place for research-orientated institutions going forward. Others are concerned that there will be less incentive to cover smaller entities from a research perspective, which could lead to a significant reduction in liquidity for smaller and less prestigious listed entities.
Banks provide the advice and are only paid if the buyer believes it was worthwhile, but MiFID II rules are about to disrupt this relationship
The low-cost airline market uses product unbundling as a way of gaining a price advantage in a heavily commoditised market. Some industry insiders suspect that the financial world could benefit from leveraging this model. The opportunity is now opening for new entrants who can provide execution services at rock-bottom prices with no-frills, and for research-only firms who can provide high-quality research at a low cost, without the infrastructure and overheads of execution.
For airlines, time will tell how well unbundling works. Some legacy US carriers have already backtracked on their cuts to food and beverage offerings, and British Airways has recently re-introduced complementary seat selection for members of their Executive Club. For the investment industry, it appears that the regulations and costs involved in complying with new rules will ensure the status quo remains for the time being.
As for the low-cost airline model, both corporate road-warriors and leisure holidaymakers continue to use low-cost carriers. However, many customers now buy their meals before boarding the plane to get a lower price, better quality product. Whether the buy side implements a similar strategy of shopping around, and if they do, what will this do to the trade execution costs that the sell side charges, remains to be seen. Whatever the outcome, it’s an area to watch and one where many lessons are still to be learnt.
