I bumped into a friend tonight at dinner, who introduced me to one of his friends who also happens to be a very successful software entrepreneur. Naturally, I mentioned that I, too am an entrepreneur with a financial software product for portfolio optimization.
We spoke about the technical side of the HAL0 software and he provided me with some fresh perspectives about the technical side of my build-out plan. Then the conversation transitioned over to the business side. He challenged me to explain the value proposition of my product without using technical language. I started with “software to build better portfolios.” OK, better how? ”Optimized for lower risk, and higher return.” And? ”Supporting risk models beyond standard deviation.” Nope — too technical.
I appreciated the grilling. I kept saying “Thank you, bring it on,” and “yes, that criticism stung a bit, but this is useful.”
Trying to pin down the essence of the business, I found myself oscillating back and forth from “too general” to “too technical.” Finally we pieced together a tagline: Portfolio Risk Mitigation. It is succinct and non-technical. It seems likely that these three words capture the essence of the company and its flagship product.
Now for the business plan.
As of 2010, there were $17.5 trillion dollars in retirement investments, including $4.7 trillion in IRAs, and just over $3 trillion in 401(K)s according to Investment Company Institute. Annual advice fees on these assets typically range from 0.4% to 0.75% according to this Multnomah Group White Paper. And according to Zero Hedge, total US household financial assets totaled $51.9 trillion in Q2 2012. Applying a very conservative 0.4% value for advice fees on these assets, this translates to over $207 billion in annual revenue for investment portfolio advice. This is the primary market Sigma1 Financial seeks to tap into.
The Market Segment
I believe the best way to gain a share of the $200+ billion financial and portfolio advice market is by providing best-in-class portfolio-optimization software to companies that provide wealth management and investment advice. These companies pay in-house analysts to find financial assets with superior returns. They also pay portfolio managers (AKA wealth managers) to transform their proprietary research into investment portfolios tailored to the needs of their individual investors. Sigma1 Financial software provides powerful portfolio optimization and analytics that helps portfolio managers mitigate risk, while maintaining or even boosting investment returns for their clients.
We are presently working will select beta partners in this market segment to learn about their specific wants, needs, and requirements. Our goal is to continuously adapt and improve our products within this market segment. We have the core technology; our current challenge is presenting it in a way that easily integrates with the business practices of our beta partners.
The number one competing product in the field is MCSI’s Barra Optimizer. To the best of my knowledge MSCI does not publish pricing information for this product. I have heard, however, that large users of the software pay through the nose — aka millions of dollars per year.
There is overlap between the HAL0 portfolio-optimizer and the Barra Optimizer. There are also unique attributes that distinguish each software product. I will concede, that Barra currently offers better integration with a suite of financial products. Conversely, HAL0 offers unique three-objective optimization and an optimization engine tuned for PMPT optimization. Futher, it is my plan to initially position HAL0 pricing models as extremely competitive compared to Barra pricing. Further, the first one or two major HAL0 customers will be in an unique position of being able to request and receive solutions to their specific requirements.
The Value Proposition
To beta partners (and soon, paying clients) the proposition is simple and compelling. Provide Sigma1 with a set of assets and, optionally any or all of : min allocations, max allocations, expected return, and a sample portfolio. If a sample portfolio is provided, I seek to provide three alternative portfolios that 1) provide superior expected return for the same risk, 2) provide lower risk at the same return, 3) provide both higher return and lower risk than the sample portfolio.
For beta partners (or potential clients), I seek to provide a model that is low-effort on their part. For no cost, Sigma1 provides (to select organizations) a range of optimized portfolio options. These potential clients can then choose how to proceed from there. Naturally, Sigma1′s goal is to impress the potential clients/partners with portfolio solutions that offer superior risk/reward characteristics.
The Bottom Line
Sigma1 offers a world-class product with low sunk costs. This enables Sigma1 to offer an extremely competitive offering while maintaining high profit margins. Both the client and Sigma1 stand to benefit.