In producing our new research report on emerging market technologies in securities finance, we were reminded of a 1997 book by Harvard professor Clayton Christensen, “The Innovator’s Dilemma.” There are direct lessons from this book to today’s securities finance and collateral management services and technology environment.
The lesson of The Innovator’s Dilemma is that big companies focus on what their customers want. That makes sense. They also focus on the big markets, for example US$100 million or more, and tend to ignore or disparage the $2 million opportunity. Meanwhile, scrappy companies gain traction by focusing on the $2 million market – these companies see that market as a big win and will fight hard to succeed there. These small companies tend to look for markets that are just beginning to grow, and some will be right. By the time the big companies get around to looking at what has now become a big opportunity, a former start-up has become a formidable competitor in the space. As Dr. Christensen notes, “small markets don’t solve the growth needs of large companies,” so big companies (in our case, banks and leading technology vendors) may ignore the opportunity at first. Later on, they may start a competitive unit that struggles to succeed or, more likely these days, buy out the competitor. We see this situation emerging in securities finance and collateral management; the window is open for smaller competitors to make a significant mark.
Small companies have another big opportunity right now: the vagueness of future market evolution. As Dr. Christensen writes, “markets that don’t exist can’t be analyzed.” Further, “leadership is sustaining innovations… is not competitively important…. It is in disruptive innovations, where we know least about the market, that there are such strong first-mover advantages.” While this might seem self-evident, it is also directly applicable to securities finance and collateral management where conditions are changing fast and can be very difficult to track.
In our report we looked at twelve companies that are competing in the niche space of securities finance and collateral management technology. We think that some of them fit the profile that Dr. Christensen has described in his book. We are also seeing services competitors that we did not profile, as well as smaller broker-dealers, compete by targeting niche opportunities that are looking too small or financially unattractive for the big banks.
The lack of clarity of market evolution is a primary reason why, in Finadium research reports, we spend so much time surveying market participants about what they think will happen next. We think that the best way to analyze what doesn’t exist is to ask decision makers what they imagine they will do next. As a concrete example, in our 2014 asset manager survey, we are asking large fund managers how they would perceive counterparty default indemnification if some or all securities loans move to a CCP. We’re getting some surprising answers, and these in turn will form the basis of opinions that shape future markets.
Not all of Dr. Christensen’s book is applicable to securities finance and collateral management today, of course. But the core thesis – that small companies can take advantage of holes in the market left by the leading brands – is strikingly applicable today.