Fintech: The Ultimate Guide To The Hottest Startup Sector

| Millie Cooke

Category: Tech & innovation

What is fintech?

Short for financial technology, Investopedia defines the term fintech as “new tech that seeks to improve and automate the delivery and use of financial services”. Fintech’s goal is to help both consumers and businesses manage their financial systems and processes more efficiently, through specialised technologies, software, and algorithms.

Over the past decade, the number of fintech companies operating in the UK (and globally) has boomed, alongside the number of people incorporating financial technology into their daily lives. Fintech companies provide an innovative alternative to traditional industries like banking, payment processing, and lending, by offering streamlined, user-focused products and services. But what makes fintech the UK’s strongest startup sector?

Fintech sees more investment than any other high-growth industry in the UK. It’s no surprise, therefore, that 13 of the UK’s 41 unicorn companies are fintechs. These include four of the UK’s leading challenger banks, as well as payment processing companies SumUp and Rapyd—which, together, make up just a handful of the ambitious fintech startups and scaleups currently headquartered in the UK.

Behind San Francisco, London is the second most active city in the world for fintech. In fact, all 13 fintech unicorns, and 9 out of 10 of the UK’s top-funded fintechs (besides Atom Bank), are based in the Capital. They’re supported by an abundance of London-based venture capital firms and fintech-focused accelerator programmes.

History of the fintech industry

Given that technology is simply defined as “an application of scientific knowledge for practical purposes”, fintech has its origins earlier than you may think. In the late 19th century, early innovators tried to address the challenge of passing financial information beyond their local area. Creating a link between financial institutions and public transport opened up communication between banks and their customers. This allowed for new levels of expansion in the financial sector.

Not long after, in the early 20th century, the development of telephone and broadband communication paved the way for the first electronic bank transfer to take place in 1918. Soon, the invention of the credit card and the very first ATM by Barclays marked the initial steps towards a cashless payment system. And by the mid-20th century, increasingly connected global transport and communication systems had laid a solid foundation on which advanced financial systems could be built. From the late 1960s onwards, financial institutions began to shift away from pen and paper towards digital data systems.

Cash being withdrawn from an ATM

By the start of the 21st century, banks’ internal processes, as well as their interactions with retail customers, had become fully digitised. Over the next decade, several major events, and the ensuing shifts in consumer behaviour that came with them, lay the groundwork for the emergence of modern-day fintech. These included the mass market penetration of smartphones, which brought with it mobile banking; the financial crash of 2008, and the growing distrust of established financial institutions that came alongside it; the release of Bitcoin in 2009 and rapid growth of crypto trading ever since, leading to the adoption of blockchain technology on a wider scale.

From 2010 onwards, we saw the emergence of a digital-first economy and the phasing out of physical cash, alongside new technologies, such as artificial intelligence (AI), Big Data, and biometrics. With the application of these innovations to fintech, the sector as we know it now began to take shape. The UK’s fintech sector has seen meteoric growth in recent years and, despite the COVID-19 pandemic and the economic uncertainty that accompanied it, the very nature of fintech and its digital roots made it better positioned than most to weather the storm.

Sub-sectors within fintech

The UK’s fintech ecosystem, a field defined by a growing number of new players, alongside household names, covers a wide array of sub-sectors. From investment platforms to pet insurance, fintech is providing innovative solutions to a range of real-life problems, and significantly disrupting the financial services industry in the process.

 Banking 

Traditional banking often lacks the flexibility, efficiency, and accessibility offered by fintech. With a range of user-focused services, such as app-based budgeting tools, sustainable debit cards, and AI-powered customer support, a new wave of challenger banks are providing a tempting alternative to established high street banks.

These disruptors have been hugely successful in transforming the banking industry so far, and their growth is set to continue with the emergence of open banking. Open banking, the result of a series of reforms to promote increased competition and choice, means that bank customers’ financial data (like regular payments and spending patterns) can be shared through APIs, with authorised third-party providers, such as budgeting apps or other banks.

Back in 2016, PwC reported that more than 70% of financial sector executives perceived consumer banking as the sector most likely to be disrupted by fintech. Since then, we’ve seen the rise of challengers Revolut, Monzo, and Starling Bank, all offering a range of banking services via their mobile apps. Meanwhile, leading B2B challengers like OakNorth are providing fast and flexible debt finance solutions to fast-growth businesses. And alongside these big players, there are a host of exciting new startups now entering the market, applying the latest fintech innovations to the digital banking scene.

 Cryptocurrency 

In simple terms, cryptocurrency is a digital currency that can be exchanged securely, thanks to its underlying blockchain technology. Unlike traditional currency transactions, which are verified by a central authority, cryptocurrency is decentralised. The first cryptocurrency, Bitcoin, remains the most popular and valuable cryptocurrency in the world today.

Whilst cryptocurrencies have faced criticism for their link to illegal activity, exchange rate volatility, environmental impact, and infrastructure vulnerability, crypto offers unrivalled portability, reduces transaction costs, increases efficiency and transparency, and is resistant to inflation. And as a core component of decentralised finance (DeFi), cryptocurrencies could be paving the way for the replacement of financial institutions altogether.

 Blockchain 

Blockchain is the technology that underpins most cryptocurrencies. Blockchain acts as a digital ledger for recording and validating transactions. Once added, these transactions cannot be removed or modified in any way, protecting them from tampering. Blockchain technology is radically transforming the financial services industry through increased fraud detection and smart contracts (which reduce legal paperwork in large financial transactions).

Blockchain.com is a major player in this space, having developed a range of products for users to exchange cryptocurrencies, track Bitcoin prices and news, and search and verify transactions. Other UK-based blockchain startups include cryptoasset compliance solutions firm Elliptic, and Adhara, which offers smart contracts for multi-currency liquidity management and international payments based on tokenised money.

Cryptocurrencies Bitcoin and Ethereum

 Investment 

Given the expertise and costs involved in investing money, investment is traditionally a field with very high barriers to entry. But fintech has played a major role in democratising the sector. Digital investment management company Nutmeg is a prime example of this. Nutmeg helps individuals build global portfolios through its online investment platform. The company’s wealth management experts build a suitable portfolio based on the investment preferences of each user, including risk levels, whether they want to focus on socially responsible investment, and how quickly their capital is invested.

 Insurtech 

The insurance industry has traditionally been characterised as an expensive necessity, marred by bureaucracy. Emerging fintech sub-sector insurtech has thus emerged to provide customers with lower premiums, accelerate the application process, streamline claim filing, automate underwriting, and personalise plans. Essentially, insurtech firms exist to streamline operations for consumers and businesses.

Big names in the UK’s insurtech space include Zego, which provides flexible insurance options for couriers and food delivery drivers via its app, pet insurance company Bought By Many, and Tractable, which has developed photo analysis software using artificial intelligence, to speed up cost estimations for insurers.

 Payments 

The payment services sector is an important subset of fintech, making the process of moving money faster, simpler and safer. Ten years ago, a single bank transfer would take days to complete. But fintech innovations have provided a solution to this, making it possible for money to change hands within seconds, without compromising on security.

Ambitious UK fintechs operating in the payments sector include SaltPay, which has developed payment processing and point-of-sale tech for merchants, as well as cost-splitting startup Zilch, PPRO Group, Checkout.com, and PaymentSense. Meanwhile, founded in 2012, Azimo has developed a mobile payment processing system which allows individuals to send money internationally to over 200 countries via its app.

 Lending 

Just like bank transfers, lending is another field which has become quicker and simpler as a result of fintech. Traditionally, it would take weeks or months for a loan to be approved, but fintech startups are providing a streamlined solution to this problem. Using mobile apps to boost usability and artificial intelligence to assess a borrower’s capability to pay back a loan, fintech lenders can often process, approve, and release loans within 24 hours. iwoca is one such company, offering short term loans to small businesses. And unlike conventional banks, which require deposits from borrowers to grant loan offers to other customers, fintechs like Lendable and Zopa also enable peer-to-peer lending.

 Machine learning and trading 

Machine learning has been fundamental in accelerating the pace of change within financial technology, supporting the automation of processes like fraud detection and credit rating. But on top of this, fintechs are also harnessing the power of machine learning to analyse huge amounts of historical data and behaviours in a short time frame, to spot trends, predict outcomes, and make decisions accordingly. This has given rise to so-called robo-advisors, which automate investment guidance through computer algorithms, but can also be applied to risk and trading decisions.

 Cybersecurity 

Although itself a separate industry, cybersecurity is closely interlinked with financial technology. Fintech companies rely on digital security to ensure the safety, privacy, and compliance of their products and services, and to develop customer trust. Cybersecurity became an even bigger priority during COVID-19, as the widespread shift to working-from-home left people increasingly vulnerable to cyber attacks.

Throughout 2020, a total of £976m in announced equity deals were secured by private UK companies operating in the digital security space, making it one of the fastest-growing startup sectors. These ambitious businesses included cybersecurity unicorns Snyk and OneTrust.

Fintech regulation

There is no single regulatory framework or governing body for the fintech industry. This means that the extent to which fintech firms are regulated depends on the individual activities they conduct.

Most fintech companies (including banks, building societies, credit unions, insurers, and large investment firms) fall under the remit of three key bodies: the Financial Conduct Authority (FCA), which focuses on protecting consumers, ensuring market integrity, and promoting effective competition; the Prudential Regulation Authority (PRA), the conduct regulator for the UK financial services industry; and the Bank of England, which aims to ensure the financial soundness of firms, and seeks to remove or reduce systemic risks that may threaten market stability.

An extensive set of rules have been set by these regulatory bodies (laid out in the FCA’s Handbook of Rules and Guidance and the PRA’s Rulebook), so each fintech must understand the rules which are most applicable to their business. Fortunately, the growing regulation of the UK fintech sector in recent years has been aided by the simultaneous rise of ‘regtech’. Regtech companies collaborate with financial institutions and regulatory bodies, applying innovative technologies to support transaction monitoring, collect data on money laundering activities, minimise the costs associated with lost funds, and improve data protection.

Despite the large volume of regulation in the sector, UK regulators have been very receptive to fintech. In 2018, HM Treasury launched its Fintech Sector Strategy, with plans to remove barriers to entry faced by fintech firms. And more recently, The Kalifa Review of Fintech set out its recommendations for how to maintain the UK’s fintech dominance, amidst growing international competition and the aftermath of Brexit. These included new rules for cryptocurrencies, alongside the creation of a regulatory ‘scalebox’ to support fintech scaleups.

What’s next for UK fintech?

In March 2020, more than 6m adults downloaded a banking app for the first time (according to research from wealth management software firm Nucoro), as COVID-19 triggered a huge increase in demand for cashless payments and digital banking. In fact, last year saw a record number of announced equity deals secured by UK fintechs, whilst 31p in every £1 invested during H1 2021 went to fintech companies, amounting to £3.28b. And fintech’s upward trajectory is expected to continue.

In line with the ‘tech for good’ movement, we’re now seeing an increasing number of fintech companies focused on minimising environmental degradation and providing green alternatives to traditional financial services. According to London & Partners, the Capital is already home to an impressive 30% of Europe’s green fintech startups, including cleantech investment platform Clim8 Invest, and TreeCard, which channels profits from merchant surcharges into reforestation programmes. Going forwards, sustainability will likely be at the forefront of future fintech innovations in the UK.

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