Wall Street and the problem of “way too many publicly traded fintechs”

In this weekly series, CNBC takes a look at companies that made the inaugural Disruptor 50 list, 10 years later.

A decade ago, the idea that an investment industry customer preferred to never speak with a human being seemed questionable. But it was among the soundbites from the robo-advisory firm Wealthfront, which came to market with backing from elite Silicon Valley firms and financial industry luminary Burt Malkiel, author of “A Random Walk Down Wall Street,” among its top executives.

Wealthfront racked up some notable clients in those early days too, such as the San Francisco 49ers of the NFL, as well as employees at Facebook and Twitter who experienced windfall wealth from IPOs. But it was never just about the celebrities or tech employees. Wealthfront was designed to reinvent the investing process for millennials first attempting to grow their wealth as a demographic increasingly choosing to conduct all aspects of their lives online. As then-CEO of the company Adam Nash said in a 2014 blog post, “Millennial investors have overwhelmingly made us the largest and fastest-growing automated investment service in the country.”

At the time, Wealthfront had $1.3 billion in assets under management “from clients in almost every imaginable profession living in all fifty states,” Nash wrote, and planned to “extend the benefits of automated investing to an even broader millennial audience.”

Earlier this year, Wealthfront was sold to UBS for $1.4 billion.

What happened in between? The reality of trying to upend a financial services business which was ripe for disruption, but in which the spending and brand power of Wall Street incumbents is difficult for any firm, even a successful one, to overcome.

Wealthfront’s January sale was preceded by Personal Capital’s $1 billion sale to Empower Financial in 2020, and left Betterment alone among that first generation of stand-alone robo-advisors that a decade ago were poised to upend the investment world.

There were many things the robo-advisors got right. For one, more investors have become comfortable conducting their financial lives online. They also were early to adopt the benefits offered by exchange-traded index funds in creating diversified portfolio solutions for investors that were available at a low cost. But their evolution also demonstrates how tough it is to build economies of scale and marketing might in a wealth management business with low margins and high costs of customer acquisition already dominated by investment giants like Vanguard and Schwab, and Wall Street banks.

Wealthfront achieved real scale from that milestone 2014 $1.3 billion in assets, growing to roughly $27 billion in assets under management at the time of the UBS deal. But compare that to Vanguard, with roughly $200 billion in its digital investment platform, and Schwab, at $60 billion.

As David Goldstone, who has tracked the space for years in the Robo Report and is an investment manager with Condor Capital, told CNBC earlier this year, “It’s always been a much easier road for incumbents.”

Disruption can achieve its highest distinction — and hurdle to overcome — when the incumbents co-opt the concept. And that’s what has happened in digital investment management.

Robinhood is another example. Its disruptive idea of free stock trading was a significant challenge to the status quo in the brokerage industry, but it quickly became the norm, with every major player from Vanguard to Schwab and Fidelity adding free trading. And then it becomes a game of scale and spend, a tough road for independents in the high-cost, low-margin financial industry. And for start-ups, it becomes a question of what you disrupt next. Wealthfront expanded well beyond its core ETF portfolios service, offering high-yield savings accounts, lines of credit, direct indexing, and cryptocurrency trust investing, but its underlying disruption — making investing a digital-first experience — wasn’t easy to extend into an Act 2 on its own.

JPMorgan CEO Jamie Dimon told shareholders earlier this year that the bank’s You Invest platform had reached $55 billion in assets “without us doing virtually anything.”

In the current market, being sold to a traditional giant isn’t looking quite so much like the consolation prize to an IPO that it might have seemed to be just a year ago, even if the robo-advisor sales do fall short of the multi-billion dollar IPO firms like Wealthfront at one point probably thought was achievable.

“Buy now, pay later” fintech Affirm was recently trading as much as 86% off its fintech bull market stock high; crypto broker Coinbase off by 81%; and Robinhood, off by 89%. Even the “traditional” fintechs have been pummeled, with PayPal — not too long ago valued higher than Bank of America — now about one-third the bank’s size.

The roboadvisory shakeout speaks to a larger truth in the disruption of financial services.

“We have way too many publicly traded fintechs,” CNBC Contributor and financial advisor Josh Brown said on Thursday on “Fast Money Halftime Report.”

“Way too many venture backed fintech start-ups waiting in the wings trying to go public. Most of them are overlapping each others’ business and most of the problem is that there is just not enough growth to go around for all of them,” he said.

“I can’t tell you how many fintech companies I look at that have the same model,” added CNBC Contributor and private company investor Stephen Weiss.

“They are spending for customer acquisition that cannot be recouped for years and years and years out into the future and they don’t have organic growth,” Brown said. “Focus on the amount of money being spent by traditional financial companies. They are going crazy on technology. They are not lying down, not sitting there eating glue while these companies are building apps; they are building apps of their own that are extremely competitive.”

Dimon noted in his annual letter to shareholders that in 2021, $130 billion was invested in fintech, and he meant it as a prod to the bank and its shareholders to accept spending even more, without any foreseeable end. “The pace of change and the size of the competition are extraordinary, and activity is accelerating. … Technology always drives change, but now the waves of technological innovation come in faster and faster,” he wrote.

For UBS, there were multiple reasons to buy Wealthfront, including allowing it to better compete in the U.S. against domestic rivals in a battle for those covered wealth management clients of the current and future generations.

UBS CEO Ralph Hamers said during an earnings call earlier this year that Wealthfront’s 470,000 existing clients are a key new audience for the bank to sell more than just ETFs too. “There’s a lot of reasons why we think that what we paid for [Wealthfront] is certainly worth the money,” he said, according to an account of the call from CityWire USA. Speaking to UBS’s past missteps in digital advisory, Hamers said on the call, “If you expect P&L to come from a business like that in the first five years, basically, you’re setting it up for failure because it’s not going to happen. Even if it is digital, you need scale.”

Wealthfront still has a future as its own brand — the UBS CEO said it will operate as a standalone, which he described as growing and successful, and ultimately as the bridge to a service which incorporates both digital-first advice and remote access to human advisors. “We’re planning similar models in the rest of the world,” Hamers said.

While the final chapter on whose spend wins hasn’t been written, right now, Wealthfront’s decision to sell doesn’t seem as much capitulation as acceptance of something more fundamental about where the road ends for many disruptors: there are times when it is better to join them rather than keep trying to beat them.