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Last summer I attended a networking cocktail party. The other guests also worked in the financial services industry. The part that intrigued me most about the event included the conversations surrounding new business ventures. Many of the men (unfortunately no women) had grandiose plans about starting their own hedge funds or similar specialized investment companies.

I remember thinking after the event that the financial industry was turning into a bunch of mini boutique shops that served narrow interests. I wondered whether we would have too many specialized firms and would therefore saturate the market.

Fast-forward several months later, add in several prominent brokerage firm and bank failures, a bunch of bailouts and mergers and we have an entirely different landscape, right?  Not so fast.  

Think about investor needs applying the Long Tail concept.

The Long Tail theory as it relates to consumer businesses first appeared in Wired magazine four years ago. Its author Chris Anderson popularized the term by discussing how the Internet is transforming our world with the economics of abundance. The Long Tail refers to the consumer business strategy of selling large numbers of unique products or services.  The article received widespread attention. Subsequently, Anderson went on to dedicate an entire book called “The Long Tail: Why the Future of Business is Selling Less of More.”

Anderson sums up his theory of the long tail this way: “Our culture and economy are increasingly shifting away from a focus on a relatively small number of hits at the head of the demand curve, and moving toward a huge number of niches in the tail.”

I’d like to explore how the Long Tail fits into the financial industry. What insights can we gather from Anderson’s book and how does it apply to the financial industry?

At the head, we have the best selling fund families:  Vanguard, Fidelity, American Funds and T. Rowe Price. These top firms represent the bulk of assets under management.

The rest of the industry falls into the tail, each focusing on their specific niches and interests. What would happen if we add more boutique firms, will that further dilute the industry?

I don’t think so. I think the answer lies in Anderson’s book.

In his book, Anderson paints a fascinating voyage of how many successful companies have transformed their business models to serve the specialized interests and tastes of consumersall without diluting their brand or the industry.

The book begins by talking about how our culture used to be obsessed with tracking top-selling listswhether it be hit songs, hit movies, hit TV shows.

This old way of focusing on top-selling markets, operated under the economic of scarcity. In reality, however, only a small percent of hit songs are made, top products produced or best-selling services offered.  

Thanks to the Internet, times have changed. Consumers are being scattered and fragmented into countless niches. Our culture as we know it has been shattered into millions of tiny pieces, a fact that has upset many traditional companies.

What’s happened is that because the Internet has brought consumers so many choices, we are seeing obscure categories and areas previously discounted as too narrow, turn into profitable businesses.

Anderson makes three astute observations about what he calls the Long Tail, including:

       It’s far larger than originally imagined

       It’s within reach

       It’s a huge business when we add it all up

In the book, the author references many industries as examples of those that have benefitted from the Long Tail. One is the music industry. If you combine all of the non-hit wonders, the size of the market is impressive. Anderson believes that the most money to be made is within the non-hit area.

He looks at how Napster resulted in the decline of traditional record stores. Traffic on P2P (peer-to-peer) file-sharing continues to grow.

Another monumental time in the music industry was the introduction of the Apple iPod. It became one of the first must-have MP3 players, using the Long Tail theory.

Industries outside of music also benefitted by using the Long Tail. Anderson believes that the most successful Internet companies are focusing on the nice markets.

Other companies mentioned in the book that have successfully worked the Long Tail, include:

Amazon, eBay – Physical goods

Google, Craigslist – Advertising/services

Google, Wikipedia – Information

MySpace, Bloglines – Communities/user-created content

Another important trend touched upon is how the traditional watercooler has lost its effect. We are now living in the virtual watercooler.

TiVo and DVRs helped to dissolve the watercooler effect. He brings up the point that even if two people watched the same show, it’s very possible that they watched it at different times, thereby changing the context of their experience.

This new culture demands control over their media and what they listen to.

Amazon signifies a very important icon in the new virtual world. Specifically, Amazon’s pioneering of customer reviews and recommendations has answered a problem consumers were having, namely how to effectively manage through the clutter of choices. Reviews help to simply our world as we move from the Informational Era to the Recommendations Era.

So turning back to my question about applying insights gained from the “Long Tail” to the financial industry, I’d like to suggest three recommendations to the financial community:

First, brokerages and banks will continue to fail, merge and bleed assets. However, this doesn’t mean that investors taste for specialized funds will diminish. In fact, investors will increasingly be searching for tailored boutique investments. Investors will continue to demand specialized products similar to their beliefs, values, interests and risk levels. As investors have access to more information, successful investment firms will recognize this need and provide niche products and services.

So, investment mangers should continue to start hedge funds and specialty boutique firms—regardless of the financial environment.

Second, investment firms are missing the boat and avoiding the new consumer culture. Consumers are moving from the Informational Era to the Recommendations Era. It’s about time financial firms begin to give investors want they want: chat rooms, investment forums, access to portfolio managers, and recommendation lists.

Third, forward-thinking investment firms should partner with, utilize, borrow from other successful Long Tail thinkers like Google, Amazon and eBay. How great would it be to have a recommended funds list based on my personal profile. 

The Long Tail is in full force everywhere, including the investment industry. I am even more convinced of this fact after reading Anderson’s book. I look forward to reading Anderson’s next book titled Free.

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