Higher returns or deposit insurance? Fintech bets on answer
While most fintechs offer customers protected sweep accounts or partner with traditional banks to back them with federal deposit insurance, some startups are pushing the envelope — offering big incentives if consumers will agree to sign up for an uninsured account.
Trio, for example, is openly marketing its cash management account as capital at risk even though the Boston firm wants customers to use it as their primary financial account. To avoid running afoul of regulations, Trio cannot say its product, which does not fully launch until 2020, is equivalent to a banking product, lest customers feel deceived if they lose money.
“Trio will never be a bank and is a software company,” said Neel Ganu, Trio's founder and CEO. “The core problem we’re trying to solve is the majority of younger people don’t invest, and they state a range of reasons — risk, inertia, knowledge, wanting control over funds.”
It's a risky move, not least because regulators can crack down on anything that purports to act like a bank account. That's what happened to Robinhood, which called its cash management account a checking account last December, invoking significant backlash from regulators and bankers.
But Trio is trying to avoid that reaction by ensuring customers know the account is at risk. It will give customers exposure to a combination of S&P 500 exchange-traded funds, U.S. government bond ETFs and money market ETFs. The company will take on the cost of liquidity, allowing customers to withdraw money at any time and use the account as both a checking and investment account.
With both a pass through bank account and pass through broker-dealer account, Trio estimates based on a back test that it can produce returns as high as 2.49% for a conservative portfolio, 4.5% for a moderate portfolio and 7% for an aggressive portfolio.
The mix is based off of principles from the investor and economist Benjamin Graham: that investments should be balanced between stocks and bonds while keeping cash on the side for downturns in bond income.
Trio also picks the largest ETFs at the lowest cost to lower fees and ease risk. In competition with Robinhood and Betterment, Trio also funds the liquidity gap so that users can spend their money whenever and as often as they want to.
Investor appetite for challenger banks is not high because the field is crowded and banks are already beginning to catch up with better user experiences, Ganu added. Trio aims to change consumer expectations about what customers are getting out of their bank accounts.
“Banks charge home loans interest, keep the majority of it, and give customers minimal checking interest,” Ganu said. “How we want banks to work is to take deposits, invest them and pay back returns with liquidity.”
Trio may find that customers use the account not as their primary account but as their second, third or fourth financial account, said Lex Sokolin, a fintech venture adviser and investor. This is what has happened to digital banks that have sought to encourage customers to switch from traditional banks, because big brands still signal stability to consumers.
Trio still has to build that trust.
“I don’t think consumers will get stuck on the insurance piece,” Sokolin said. “But Trio will have to focus on marketing to make them comfortable.”
But the changing financial habits of younger Americans may benefit fintechs like Trio, said Matthew Rhodes-Kropf, visiting associate professor at MIT Sloan and managing partner at Tectonic Ventures. (Ganu was Rhodes-Kropf’s teaching assistant at MIT.)
“Millennials who have graduated from college are often spending just what’s there in their checking account,” Rhodes-Kropf said. “People rarely manage their bank account by forecasting their spending now.”
Trio will also have to overcome a hurdle that faces every technologist that has tried to meld investing and banking: Consumers today have a difficult time spending their investments as currency. “You have the same issue in the crypto world,” Sokolin said.
Ganu contends that Trio will attract customers. “We think it unlocks investing for the group of Americans that don’t have the luxury to budget,” he said.
Ganu began building the company full time in April, after years working in banking, investing and financial analysis. He claims that the rate of innovation in the U.S. has actually made developing new applications simpler.
“If you were to do something like this 10 years ago, you would need to buy a bank or buy a broker and the bill for that would be in the tens of millions of dollars,” Ganu said.