PAOLO SIRONI is a global thought leader for Wealth Management and Investment Analytics at IBM, where he is responsible for promoting quantitative methods, Goal Based Investing (GBI) and digital solutions for financial advisory. His expertise combines financial services and technology and spans over a number of areas, including wealth management, asset management, risk management and FinTech innovation. Prior to IBM, he founded a FinTech startup that provided GBI portfolios to wealth managers. This venture subsequently became a part of IBM following the acquisition of funding partner Algorithmics, a world leader of risk management and investment analytics. Paolo possesses a decade-long risk management expertise; he was previously head of market and counterparty risk modeling at Banca Intesa Sanpaolo. He is the author of Modern Portfolio Management: From Markowitz to Probabilistic Scenario Optimisation, and contributing author to The FinTech Book.

Preface xiii

Acknowledgments xix

About the Author xxi

Part One Personalize Personal Finance

Chapter 1 The Theory of Innovation: From Robo-Advisors to Goal Based Investing and Gamification 3

1.1 Introduction 3

1.2 A vibrant FinTech ecosystem 5

1.3 Some definitions, ladies and gentlemen 8

1.4 Personalization is king 9

1.5 The theory of innovation 11

1.6 My Robo-Advisor is an iPod 13

1.7 What incumbents should consider when thinking about FinTech innovation 15

1.8 Conclusions 17

Part Two Automated Long-Term Investing Means Robo-Technology

Chapter 2 Robo-Advisors: Neither Robots Nor Advisors 21

2.1 Introduction 21

2.2 What is a Robo-Advisor? 22

2.3 Automated digital businesses for underserved markets 25

2.4 Passive investment management with ETFs 26

2.5 Algorithms of automated portfolio rebalancing 29

2.6 Personalized decision-making, individual goals, and behaviour 30

2.7 Single minded businesses 31

2.8 Principles of tax-loss harvesting 33

2.9 Conclusions 36

Chapter 3 The Transformation of the Supply-Side 39

3.1 Introduction 39

3.2 The investment management supply-demand chain 40

3.3 How intermediaries make money 42

3.4 Issuers of direct claims (debt owners) 44

3.5 The institutionalization of the private banking relationship 45

3.6 The digital financial advisor 51

3.7 Asset management is being disintermediated 54

3.8 ETF providers and the Pyrrhic victory 57

3.9 Vertically integrated solutions challenge traditional platforms 59

3.10 Conclusions 60

Chapter 4 Social and Technology Mega Trends Shape a New Family of Taxable Investors 61

4.1 Introduction 61

4.2 Generational shift (X, Y, Z, and HENRYs) 62

4.3 About transparency, simplicity, and trust 65

4.4 The cognitive era 67

4.5 Conclusions 70

Chapter 5 The Industry's Dilemma and the Future of Digital Advice 71

5.1 Introduction 71

5.2 Wealth management firms: Go digital or die 72

5.3 Asset management firms: Less passive, more active 75

5.4 Robo-Platforms: Less transactions, more portfolios 76

5.5 Digital-Advisors: Empowered customization 77

5.6 Robo-Advisors: Be human, be virtual, take care of retirement 79

5.7 Conclusions: Clients take centre stage, at last 81

Part Three Goal Based Investing is the Spirit of the Industry

Chapter 6 The Principles of Goal Based Investing: Personalize the Investment Experience 85

6.1 Introduction 85

6.2 Foundations of Goal Based Investing 89

6.3 About personal needs, goals, and risks 91

6.4 Goal Based Investing process 96

6.5 What changes in portfolio modelling 97

6.6 Personal values 100

6.7 Goal elicitation 100

6.8 Goal priority 102

6.9 Time horizons 102

6.10 Risk tolerance 103

6.11 Reporting goal-centric performance 105

6.12 Conclusions 108

Chapter 7 The Investment Journey: From Model Asset Allocations to Goal Based Operational Portfolios 109

7.1 Introduction 109

7.2 Main traits of Modern Portfolio Theory 113

7.2.1 Asset diversification and efficient frontier 114

7.2.2 The Mean-Variance model portfolio 117

7.2.3 Final remarks about Mean-Variance 118

7.3 Main traits of Black-Litterman 118

7.3.1 The equilibrium market portfolio 119

7.3.2 Embedding professional views 121

7.3.3 The Black-Litterman optimal portfolio 122

7.3.4 Final remarks on Black-Litterman 122

7.4 Mean-Variance and mental accounts 123

7.4.1 Final remarks on Mean-variance and Mental Account 123

7.5 Main traits of Probabilistic Scenario Optimization 124

7.5.1 The PSO process 124

7.5.2 The investor's risk and return profile 126

7.5.3 Generation of scenarios and scenario paths 128

7.5.4 Stochastic simulation of products and portfolios over time 128

7.5.5 Potential and admissible portfolios: Allocation constraints 129

7.5.6 Adequate portfolios: Risk adequacy 130

7.5.7 Objective function: Probability maximization 131

7.5.8 Final remarks on PSO 135

7.5.9 Conclusions 135

Chapter 8 Goal Based Investing and Gamification 137

8.1 Introduction 137

8.2 Principles of Gamification 138

8.3 Gamification of wealth management 140

8.4 The mechanics of games 141

8.5 Conclusions 143

Concluding Remarks 145

Bibliography 147

Index 151