Lecture 1:

Introduction to FINTECH
 FINTECH Revolution
• Financial Technology, or FINTECH, emerged mostly as
o profit-driven initiatives to explore business opportunities
o e.g., untapped markets or markets that became less attractive
or too costly for established financial institutions, particularly in
the post-crisis context (e.g., remittances to certain regions or
countries);
o A consequence of the decades-long digitization of services
offered by established institutions;

• The FSB (2017) defines FINTECH as “technology-enabled

innovation in financial services”,
o including in this definition is a mix of products/services (e.g.,
digital retail payments, digital wallets, FINTECH credit, robo-
advisors, and digital currencies) and their underlying
technologies;
WHAT IS FINTECH?

Payments

Financing Investments

FINTECH

Big Data Advisory

Insurance
 EXAMPLES OF FINTECH
Peer to peer or marketplace lending platforms
▪ lending to individuals or businesses through online
services that match lenders directly with borrowers
▪ operation of lending platform may be regulated

Equity crowdfunding
crowdfunder
▪ funding a project or venture by raising money from a
large number of people
▪ may be regulated for arranging securities transactions
or operating an unregulated investment fund
Roboadvice
▪ automated financial advice (computer based algorithms
and decision trees)
▪ may be subject to adviser registration/regulation
EXAMPLES OF FINTECH
Virtual currencies
▪ Bitcoin etc. might constitute currencies if the trading in
them is regulated; also raises AML issues

On-line payment accounts

▪ accounts through which you can send money, make
payments online, and receive money
▪ may be regulated as non-bank payment institutions

Payment initiation services

▪ service used to initiate a payment to another party
 Key Technologies in FINTECH
• Application Program Interface (API) – APIs are definitions, protocols and tools that specify how
different software should interact. They allow the development of computer programs such as
personal finance management applications that access a person’s bank (or other) account
information to provide a range of facilities (e.g. financial management tools).
• Artificial intelligence (AI) - artificial intelligence is the science of making computer programs
perform tasks such as problem-solving, speech recognition, visual perception, decision-making and
language translation. AI has numerous applications and is increasingly used in the financial sector
(e.g., robo-advice, transaction authentication). Increases in data processing and storage power, as
well as advances in some of its sub-sets, most notably machine learning, have boosted AI in the
recent years.
• Machine learning – machine learning can be considered a sub-field of AI that focuses on giving
computers the ability to learn without being specifically programmed for such through hand-
inputted codes. It is focused on parsing out and learning from large amounts of data, in order to
make a determination or prediction. Machine learning uses a variety of techniques, including neural
networks and deep learning. In the past, AI tried to mimic human behavior through rules-based
methods, i.e., logic-based algorithms. Today, machine learning is data-based, that is, computers
analyze a large volume and variety of data to recognize patterns, which do not need to be intuitive
or rational, or translated into programming codes. This type of machine learning is already having
impact on financial services and financial supervision.
• Internet of Things (IoT) – IoT is a new concept. It uses several technologies with the purpose of
connecting everyday life devices (e.g., refrigerators, house alarms, mobile phones, cars) to the
Internet in order to provide value to the customer, including facilitating financial transactions such
as purchases and bill payments, or providing security services, among many other applications.
 Key Technologies in FINTECH
• Big Data analytics – Big Data is a loose term to refer to large volumes of unstructured
(e.g., emails, Internet traffic) and structured (e.g., databases) data whose analysis is not
possible using traditional analytical tools. It includes data collected through networks
such as the Internet or corporate intranets, and other data that organizations generate
and store in the normal course of their businesses. Big Data analytics focuses on, for
instance, discovering patterns, correlations, and trends in the data, or customer
preferences. It can be based on machine learning or other technologies.

• Distributed ledger technology (DLT) – A distributed ledger system is a database

shared between multiple parties (nodes) to execute mutually agreed-upon transactions
based on some consensus mechanism. The key feature is that all nodes have identical
versions of the data, dispensing with a central trusted party (e.g., a clearinghouse).
These characteristics make cyber attacks and data alteration difficult. Often, the terms
“blockchain” and DLT are used interchangeably, but blockchain is a type of DLT,
which was popularized by Bitcoin starting in 2009. In the Bitcoin, the ledger of
transactions is as a series of blocks of data linked together through cryptography (the
blockchain) based on the work of “miners” (nodes who continuously solve
cryptographic puzzles to validate transactions that will comprise the blockchain). There
are many potential applications for DLT, such as cryptocurrencies, central bank fiat
currencies, public registries (e.g., property, birth and identity registries), and smart
contracts. DLT could have profound impacts in the financial sector by creating
efficiency gains (e.g., streamlining back-office for trade finance and other areas),
changing financial and non-financial infrastructures, changing roles of central
counterparties, etc.
 Key Technologies in FINTECH
• Smart contracts – a smart contract is a digital contract that can self-execute automatically when
conditions are met. Using DLT to create and execute contracts has potential benefits such as
immense process and cost efficiencies, and interoperability. Examples of DLT used as smart
contracts platforms are Ethereum and Corda (by R3, a consortium of international banks
developing DLT to financial services).

• Cloud computing – cloud computing is the use of remote and shared servers hosted on the
Internet to store, manage and process data, rather than servers and computers owned and locally
maintained by each user of the cloud (e.g., a bank). It has significantly increased the capacity of
financial institutions and other organizations to generate, store, manage and use data with lower
costs and higher flexibility.

• Cryptography – cryptography is the science of protecting information by transforming it into a

secure format (i.e., by encrypting it). While it has traditionally focused on the exchange of
cryptographic algorithms developments in quantum computing are driving the transformation of
cryptography methods (current algorithms rely on mathematical problems that could be
relatively easily solved by powerful quantum computer, so cryptography will need to evolve to
techniques that continue to hold when quantum computers become mainstream).

• Biometrics – biometric technology relates to the digital capture and storage of unique
characteristics of individuals, such as customers (e.g., fingerprint, iris, voice, face) primarily
with the purpose of increasing the security (and convenience) of financial transactions.
Examples of financial products and services
using FINTECH
• Digital payments and e-money – FINTECH innovations are increasingly explored for
wholesale payments, but most of the action is in the retail payments. Particularly in
developing countries, where cash accounts for the bulk of retail payments and where
payment (debit and credit) cards are not widely used, FINTECH firms offer options for
peer-to-peer transfers, bill payments, and electronic purchases. In many cases these
services are attached to an e-money product, i.e., a digital wallet where customers can hold
monetary value for an undetermined period of time. A pioneer was Kenya’s M-PESA,
offered by Safaricom, a mobile network operator, but there are numerous other examples.
These products may also be tied to savings accounts or insurance products.

• International remittances – There is a wealth of FINTECH innovation focused on large

international remittances corridors. FINTECH has been simplifying procedures and cutting
the costs of transfers, including to serve the undocumented diaspora in a variety of
countries. The services may be based on e-money products, traditional bank accounts,
cryptocurrencies (see below), or combinations of these.

• Crowdfunding platforms – Crowdfunding platforms are mostly Internet-based services

provided by FINTECH firms to facilitate funding/investment opportunities, including
equity investment and donations. Like P2P lending platforms, these vary widely in shape
and operating rules.
 Example: MARKETPLACE LENDING
• Typical model for marketplace lending:
• borrowers apply for a loan on a marketplace platform;
• accepted loan applications are then originated by a partner bank (LendingClub and Prosper use Utah-
based WebBank);
• the MPL performs the underwriting of the loans, using criteria agreed with the partner bank
• platforms purchase the loan from the partnerbank;
• the platform issues a note to lenders, instead of a contract.
• Marketplace or “peer-to-peer” lending platforms make a profit from arrangement fees
rather than the spread between lending and deposit rates

• Marketplace lending has grown due to low interest rates, low default rates, improved
lending process and scarcity of consumer credit

• Partnerships between banks and MPLs are becoming increasingly common in the US.
BBVA Compass bank, for example, partners with OnDeck to originate small business loans
through the platform by referring customers for smaller loan amounts.

• Other bank partnerships focus on funding, i.e. rather than simply referring the loan on to an
MPL, the bank provides the funding themselves. For example, LendingClub and Citigroup
announced a partnership in April 2015 in which Citigroup provides borrowers on the
platform with funding through Varadero Capital hedge fund, which takes on the first loss risk.

• These arrangements allow banks to provide funding to higher risk individuals or SMEs,
while passing much of the credit risk on to investors.
Examples of financial products and services
using FINTECH
• Personal and business loans – FINTECH credit is a burgeoning market and can take many forms and
target various customer segments, including low-income borrowers and micro, small and medium
enterprises. Most often, FINTECH credit utilizes novel credit scoring methods based on alternative
data collected outside of the financial sector (e.g., Big Data, bill payments history, mobile phone
usage). Many products are based on automated credit decisions, whereby a customer applies for and
has her loan disbursed in only a few minutes, simply by pushing some buttons on her mobile phone.

• Peer-to-peer (P2P) lending platforms – within FINTECH credit, an important development is peer-
to-peer lending platforms, which are mostly Internet-based services provided by a FINTECH firm
where lenders and borrowers “meet”. Platforms vary widely in format and operating rules.

• Robo-advisors – robo-advisors (also called “automated” or “digital investment” advisors) are online
platforms that provide services such as financial advice and, most often, portfolio management, with
minimum or no human intervention.

• Cryptocurrencies – Bitcoin was the first widely used cryptocurrency, but many others have been
created since 2009, when Bitcoin was launched. Cryptocurrencies are not issued by government
authorities and are not usually recognized as and do not represent fiat currency. Like Bitcoin, other
cryptocurrencies are based on DLT. Individuals and companies can acquire and sell cryptocurrencies
by being parties in the distributed ledgers, or by using specialized cryptocurrency online exchanges.
FINTECH & its impact on financial sector
FINTECH can impact financial sectors in several major ways:
1. By increasing competition, expanding consumer options,
democratizing access to financial services – particularly in developing
countries – and driving further innovation as a consequence.
o Innovations create new product/service features and new commercialization strategies and
channels;

2. By increasing efficiency due to innovation in:

o Relevant infrastructures such as payment systems infrastructure, credit information
systems, and public registries (e.g., collateral registries, land registries, and ID
systems).
• Example: Know-your-customer (KYC) utilities, i.e., facilities that can be used by multiple
financial service providers, and which streamline the collection and exchange of client
identification data;
o Back-office and frontline procedures at traditional financial institutions, as well as in
their decision-making process. This includes improvements in risk management and
regulatory compliance (Regulation Tech).
• More often, the adoption of innovation by established institutions relies on partnerships with
FINTECH firms, which assume specialized roles, such as providing credit scoring, insurance
pricing tools, KYC utilities, prepaid account management, and communications automation.
• E.g., although large banks own a vast quantity of customer and transactional data, often their
legacy systems and data analytics capacity are not adequate to extract business intelligence in
a timely and cost-effective manner. Hence, they turn to FINTECH firms for advanced data
analytics, including Big Data analytics.
FINTECH & its impact on financial sector
3. By creating new investment opportunities for established
institutions.
o Banks and insurers are increasingly investing in and buying out FINTECH
firms, as part of their broader investment portfolio, and some are also
sponsoring FINTECH incubators to generate investment opportunities.

4. By improving financial supervision (Supervision

Technology) and Regulations.
o We will devote a separate lecture to this topic;
 Opportunities and Risks of FINTECH
The opportunities and the risks introduced by FINTECH relate to:
i) The innovative use of data;
ii) The underlying technologies (we discussed above);
iii) New players (e.g., FINTECH firms) and business models;
iv) New products and services.

• FINTECH uses large amounts and new types of digital data (e.g.,
Big Data), which was made possible by the development of
advanced data analytics and processing capacity.
• This new data-intensive era is characterized by the “3 V’s”: high
velocity, large variety, and big volumes of data, raising concerns for
data protection and privacy, bank secrecy, cybersecurity, and data
management.
ADDITIONAL RISKS FROM FINTECH

✓ Businesses focused on the “Tech” and not the “Fin”

▪ may lack banking experience
✓ Cybercrime
✓ Data security/data protection
✓ Potential user anonymity/AML risk
✓ Volatility created by ease and speed of transfer of
funds
✓ Increasing regulatory scrutiny
 MUST READ PAPERS
• The papers below are required reading related to this lecture.
You are responsible for the content in those papers (or
specified sections in the paper/book).
• The assigned material is mostly non-technical, but knowledge
of basic finance and certain FINTECH terminologies is required.
• These white papers are available to download from SSRN
network; I will also uploaded these papers’ .pdf file to our
course’s Moodle page.

• Das (2019) “Future of FinTech” –Financial Management 48, 981-1007

o Responsible from the content in all the sections of the paper.
• Chen, Wu, and Yang (2018), “How valuable is FinTech
innovation?” – forthcoming in Review of Financial Studies
o Responsible from all sections (except technical parts of Section 3.1)
 FINTECH Library
• One of the leading FINTECH organizations, R3CEV, each
Friday devotes a section of its website to “The Weekend
Read,” which typically includes the most interesting
feature journalism and research reports published in the
FINTECH area. The website includes an archive and can
be accessed at, for instance:
https://www.r3cev.com/blog/2016/12/11/the-weekend-
read-dec-11
• For daily breaking FINTECH news, the authoritative
source is http://www.coindesk.com/
• https://www.fintastico.com/coding/github-repos-list/
• https://www.fintechvisor.com/
 In Preparation for this Lecture
• All students should watch:
– The the Bitcoin documentary on Netflix (“Banking on Bitcoin”) about
the background and events associated with Bitcoin. Very interesting!

– A short video about so called “Byzantine General Problem” (related to

Blockchain and establishing trust):
https://twitter.com/SJosephBurns/status/953252564887330816

– A longer video that describes in more detail the Byzantine General

Problem and how Blockchain solves it: “The Byzantine Generals
Problem and Blockchain Consensus Models | A Deep Dive”
https://www.youtube.com/watch?v=YJHcoHxfor4

– Watch the documentary named “The Blockchain and Us”. It can be

found through: https://blockchain-documentary.com/