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THE FUTURE OF DIGITAL INVESTMENTS


Thomas Zeeb

What it takes to build the future of market infrastructure

Structurally, stock exchanges and the broader market infrastructure function have gone unchanged for decades. Whilst innovation has touched the functions of many elements and improved performance, security and safety, considerably, limitations exist because these elements are still separate from one another.

The purpose of a stock exchange is to provide businesses with effective access to capital. But in an era whereby access to capital has gotten easier overall – thanks to crowdfunding and VCs – we at SIX concluded that a fundamental rethink of market infrastructure was necessary for the stock exchange to remain relevant.

Thomas Zeeb

The SIX Digital Exchange (SDX) will soon begin offering services to customers. SDX is the first fully integrated trading, settlement and custody infrastructure for digital assets. The service will provide a safe environment for issuing and trading digital assets and enable the tokenisation of existing securities and non-bankable assets to make previously untradeable assets tradeable.

When the team first started looking into the possibility of a digital exchange, the focus was on digital assets, the digitisation of existing assets and what that meant for the industry as it was structured. However, reality soon took over and SIX realized that taking an existing process and automating it with new technology wouldn’t be much of a business case, particularly if the operational infrastructure is cheap the way it is. SIX therefore set itself a high bar to clear in assessing the potential value of the SDX project to the wider industry.

Regulating the unregulated

The creation of SDX involves collaboration with both the Swiss regulator and the Swiss National Bank to ensure what we are building complies with the regulatory market infrastructure businesses operate in.

Our discussions with regulators have mainly been around the licensing framework of SDX. But we have also been talking to them about the accountability of issuing tokens and the risk of digital tokens inflating the money supply. The model currently being explored involves SIX creating a liquidity cash token linked to the Swiss franc, with supporting funds held in a segregated account at the SIC (SIX Interbank Clearing AG). For example, if someone transfers 100 million Swiss francs, SIX would then separate that to a specific SIC account of SDX and SDX would issue 100 million Swiss franc token for settlement.

However, the tokens would only be used for settlement against securities tokens within an integrated processing framework and not as a cryptocurrency tradable in its own right.

Not all blockchain

Joining up the processes of trading and settling digital assets using distributed ledger technology is something that has not been done before. Whist we are striving to create an infrastructure which predominantly utilises DLT, it is also important to remember that we will only apply the technology to functions where it is completely necessary. The overall goal is to ensure that what we build is built using the right technologies to ensure the best futureproofing and maximum effectiveness.  

Moving ahead

SIX is planning a phased roll out of SDX. The first step has been to build a regulated exchange platform for digital assets and then to offer a service to tokenise existing bankable assets. The third phase offers the tokenisation of non-bankable assets, providing new investment possibilities, including, for example, real estate and art.

With digital offerings becoming more important than ever, exchanges that aren’t exploring the landscape may seriously struggle to put a credible alternative to their present offering. Part of the challenge is to facilitate the involvement of third parties in the provision of services in the digital exchange ecosystem – think of Apple; what makes the App Store so successful is that developers want to develop apps for it. That’s what every exchange will need to attract to be successful.

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BRAVE NEW WORLD: A FUTURISTIC VISION OF PAYMENTS

James Booth, VP, Head of Partnerships in EMEA for PPRO

 

Over the last ten years, the retail e-commerce ecosystem has undergone a wide-ranging transformation. As recently as 2010, the e-commerce and payments value chain were relatively straightforward: Any eCommerce merchant could integrate a payment processor’s front-end HPP into their checkout or perform a deeper API integration for a customised checkout experience. The customer then enters their card details or other bank details, which were passed on to payment platforms and schemes for processing.

In 2020, we are now well into the era of open banking, and things look very different. The volume of payments has exploded. By 2018, global digital payments were worth US$3,417.39 billion, and are expected to increase to US$7,640 billion by 2024. Using integrated real-time payments systems — which incorporate everything from authentication through settlement to confirmation — consumers send and spend money in the blink of an eye. And the speed and volume of transactions are made possible by the increased use of technology and artificial intelligence to do everything from risk assessment to anti-fraud measures.

But this very visible — and much written about — transformation is not the only way in which the payments and e-commerce landscape has been changing beyond recognition. Because while e-commerce over the last ten years has gone increasingly global, the way people pay online is more than ever local. In some markets, low rates of financial inclusion make cash-voucher schemes the best option. In others, bank-transfer apps are the most popular.

Our research has shown that between 2017 and 2019, the number of UK online transactions paid for using a bank transfer increased by 36%. Driving the use of bank transfer payment methods by UK consumers to now account for  8% of all British online transactions, with cards and e-wallets, including PayPal, leading the race. In fact, card payments account for 56% of transactions, followed by e-wallets (25%), bank transfers (8% ) and lastly cash (7%).

Some markets prefer e-wallets or primarily use locally issued credit cards. In the Nordics, deferred payment methods are becoming the norm. And in countries such as Germany, most online shoppers prefer via direct debit.

The result is a global online and digital payments market that is now incredibly diverse. And even more complicated. Even markets right next door to each other may have very different payment preferences. In Latvia, for instance, 49% of online transactions are paid for using a credit card [2]. In neighbouring Lithuania, it’s just 24%.

Globally, by 2021, only 15% of all transactions will be paid for using the brands of credit cards familiar to most Western merchants. That number is only set to decrease. Today, local payment methods account for 77% of e-commerce spend; by 2024, it is forecast that this share will increase to 82%. There are an estimated 450+ significant local payment methods worldwide, so considering the UK mostly rely on PayPal and card payments, there is a big world of alternative payment methods the British public are yet to realise. To truly go global, merchants don’t just need break down language barriers, but also payment barriers.

Already, Klarna, one of Europe’s most popular bank-transfer and pay later app, processes €53.4 billion in online payments every year. Merchants operating in or entering Europe which doesn’t support Klarna are effectively saying that they’re not interested in any part of that €53.4 billion. And this situation is not unique; it applies to markets throughout the world.

 

Local payment methods, as they drive financial inclusion, will only proliferate.

When we look forward to the state of e-commerce in 2030, a personalised shopping experience is not a nice-to-have. It is an absolute requirement. Consumer preferences must be noted; if they aren’t, retailers will miss out on sales. Almost half (47%) of UK consumers will end a transaction if their preferred payment method is not available, according to PPRO research, so customising payment options for cross-border shoppers is vital. This is highly important to attract international customer bases beyond a retailer’s local remit. It’s no longer adequate to offer customers one single way of paying – in-store or online. Payments aren’t a one size fits all approach.

The best brands do this already. Those who don’t will struggle to make it to 2030.

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ENTERPRISE BLOCKCHAIN: DRAGGING INSURANCE OUT OF THE DARK AGES

INSURANCE

Ryan Rugg, Global Head of The Industry Business Unit at R3

 

The history of insurance traces back to the development of modern business and insuring against its risks; property, cargo, medical and death. Insurance helps mitigate losses, wary of the financial losses a capsized ship could cause, forward-thinking vessel owners established communal funds that could pay for damages to any individual’s ship within the group. While this basic concept holds strong to this day, insurance is now a multi-trillion dollar industry that impacts almost every other sector of business, from healthcare to capital markets and aviation.

Despite the insurance industry’s image of being a conservative sector, insurers have been consistently innovative in the property and perils they protect against, but the supporting technologies and infrastructure have remained antiquated and unfit for purpose. Operational inefficiency is the single biggest threat facing the insurance industry today, and insurers are now taking steps to tackle this challenge head-on with purpose-built enterprise blockchain technology.

 

INSURANCE

Ryan Rugg

Inefficiency and fragmentation

Blockchain provides a solution to drive efficiency and security that would allow private data to be shared in a secure manner. Many policies are still sold over the phone rather than online, and the policies themselves are then processed on paper contracts, introducing huge potential for manual errors in claims and payments. This anachronistic infrastructure is even more surprising when you consider the complexity of the insurance ecosystem and the amount of parties involved in a transaction, including consumers, brokers, insurers, reinsurers and more.

The costs of this inefficiency and fragmentation are well documented. Inaccurate, disparate sources of data acquisition lead to long underwriting cycles and inaccurate risk profiling. Extensive manual intervention is required across the insurance value chain, ranging from contract placement to claims settlement. Archaic billing systems and complex billing processes lead to high reconciliation costs. Ambiguity in loss conditions, assessment procedures and claim settlement delays leads to increased litigation risk. It has been estimated that as much as 60% of customer premiums is consumed by these inefficiencies.[1]

In addition, increasingly stringent and dynamic regulatory requirements continue to impact areas such as renewals and claims assessment. Insurers often have a complete lack of visibility of their liabilities and obligations, and a lack of transparency across the entire business. In today’s regulatory climate, it is unsurprising that authorities are beginning to demand more from insurers.

Blockchain technology is not a panacea for all of these problems, but with the right architecture a platform can address and reduce inefficiencies.  There are also new revenue and growth opportunities in cutting-edge sectors such as cyber insurance that blockchain technology can help enable.

 

Tackling the blockchain privacy challenge

Blockchain offers insurance firms a new way to coordinate information between each other, by using a pre-agreed technology solution instead of relying on a third party’s bookkeeping. The technology enables disparate parties to connect via a shared platform environment. While this premise may appear simple at first glance, the insurance industry has specific requirements in relation to privacy and security that only certain blockchain platforms can fulfil.

For example, if a blockchain has the appropriate data privacy architecture in place, each insurance firm can maintain the same amount of control over their data as today, but with more flexibility. Unlike the traditional permission-less blockchain platforms – in which all data is shared with all parties – Corda shares information with those who have a “need to know,” ensuring the confidentiality of trades and agreements while also capturing the benefits of a shared distributed ledger infrastructure.

Blockchain platforms such as R3’s Corda have been purpose built for enterprise usage in industries such as insurance and tackle issues such as data privacy, scalability and security head-on. Following a period of experimentation with multiple consortia and technologies, insurers are now consolidating their blockchain efforts around Corda.

Testament to this is the recent decision of the industry-leading B3i consortium to port from IBM’s Fabric to Corda or RiskBlock decision to port from Ethereum.  All the major insurance groups and ecosystems are coalescing on Corda in order to effect change and form standards. As Metcalfe’s Law states, the value of a network is proportional to the number of connections in the network squared – the more insurers that build upon on a common platform, the more valuable the platform becomes to all participants due to the interoperability of applications. The consolidation around Corda creates network effects industry-wide.

 

Contract placement: leveraging the network effect

To more tangibly examine the benefits of these network effects, we can look at a specific insurance use case that involves a network of many different entities and counterparties – contract placement.

Contract placement is the process of negotiating a potential insurance contract between a broker and an insurer in order to issue the contract to provide coverage for an end customer. For most commercial and specialty insurance scenarios, except for small commercial and some mid-market products, this is an arduous, complex process involving several entities – a broker, one or more insurers, and potentially a reinsurer and reinsurance broker. Furthermore, outsized risks generally mean that multiple insurers come together to insure the risk at the requested limit price, resulting in additional complexity for the broker in managing the placement process.

Contract placement, with the extensive negotiation cycle between a broker and insurers, as well as between an insurer and reinsurers – with or without a reinsurance broker thrown in – has several inefficiencies related to inter-firm coordination. Extensive manual intervention and reconciliation is required for brokers, insurers and reinsurers to keep track of requests and responses; high IT spend is required for all participating parties to maintain an audit trail of the negotiation history between different entities; and each firm must make heavy investments in document storage systems to maintain separate contracts over the policy lifecycle.

Leveraging the network effect by connecting brokers, insurers and reinsurers onto the same blockchain platform can deliver numerous benefits. These include:

  • Near-instantaneous communication between participating parties to eliminate delays associated with reconciliation and coordination;
  • Real-time consensus among all parties involved in the contract on coverage, price, terms and conditions;
  • Complete audit trail from all sides of negotiations and data exchanges;
  • Greater regulatory compliance throughout the insurance industry due to instantaneous communication of in-force contracts to the regulator;
  • Eliminating the “double spend” problem of having the customer buy the same policy from different insurers by involving the notary (regulator);
  • Reduced IT spend for individual firms, with eventual decommissioning of legacy document storage systems and reducing spend on document generation systems.

 

A brighter future

Blockchain technology offers great promise across many avenues, not only contract placement. Platforms like Corda can add value to many insurance business segments – commercial and specialty insurance, life insurance, personal lines and health insurance, along with niche areas like marine and trade credit.

The industry’s recent consolidation around Corda reaffirms that data privacy is pivotal for a network of enterprises and that the platform’s peer-to-peer data sharing approach matters for insurance blockchain applications going into production. For a highly regulated industry like insurance, only Corda can ensure that the entire supply chain of brokers, insurers, reinsurers and consumers can interact in a seamless, secure and private manner.

From contract placement to insurance as an industry, we are excited to see the new opportunities and efficiencies that blockchain technology will enable between this wide ecosystem of participants now that the right network – Corda – is in place.

[1] https://marketplace.r3.com/solutions/Blocksure%20OS/448484fb-ad8d-40c1-8a1f-47e76381fb85

 

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