Traditional banking gets a fintech facelift
By Imogen Rowley
Posted: 21st December 2016 08:54
Just how big is fintech?
Rarely in history have banks and traditional financial institutions faced competition from anyone except other banks. Over the past decade however, advances in technology which see us all glued to our smartphones for everything from boiling the kettle to voting on TV talent shows, as well as the worldwide collapse of the banking industry in 2007-9 and its devastating effect on the global economy, have led to the rapid growth of financial technology companies storming onto the scene as the Wall Street dust settles, vowing to disrupt just about every banking sector and product line out there. Fintech is an ideology of 21st century finance, revolving around the simple concept of utilising new technologies to make banking easier, cheaper, faster, more intuitive and more transparent. At least 4,000 fintech start-ups are active, with more than 20 so-called ‘unicorns’ valued at over $1 billion. Influenced in part by firms such as Airbnb and Uber, who revolutionised traditional industries of their own, fintech has soared: according to data from a KPMG / CB Insights report, there have been nearly 2500 fintech venture funding deals since 2013, when start-ups such as peer-to-peer lenders Lending Club and mobile payments platform Square began to gain traction. According to The Economist, that translates to more than $25 billion poured into fintech start-ups. But the definition of fintech is slippery – how to differentiate a financial services company using technology from a technology company offering financial services? Several authorities have proposed using the self-determined level of ‘disruption’ posed by the company to existing incumbent financial providers as a useful proposed benchmark (although how this is calculated remains to be seen), as well as the proportion of employees who work in engineering or coding roles. However there then also remains the issue of single-use start-ups focused on a specific sector, contrasting with traditional tech companies such as Apple, Amazon and Google incorporating financial technology into their repertoire of existing services: issues potential investors and regulators will have to take into consideration before deciding the winners and losers of the fintech revolution.
Better, faster, cheaper
Unburdened by the concerns which see traditional banks glued to a different era – one of expensive real estate, accompanying staff and branch costs, as well as cumbersome regulation which thwarts any daring bud of genuine competition – start-ups are cheaper to run and as such can offer far better value, delivering much more human ways of banking. By removing the expensive middle man banker or broker, fintech gives power to the consumer – simultaneously cutting costs, dodging fees, speeding up transactions and providing better rates. Peer-to-peer lending is one area where fintech excels. P2P puts investors directly in touch with borrowers, cutting weeks off the time traditional banks take to approve similar loans and rendering the whole transaction more transparent. Technology improves the customer experience by an extraordinary amount: the ability to automate complex processes and work outside of business hours makes financial services much more in tune with users’ needs. The whole procedure is made fairer by utilising data and analysis to ensure both customer and lender are much more informed and can make better choices: able to pull on huge quantities of information, the kind of data-driven lending and innovative new ways of assessing risk employed by fintech start-ups removes human prejudice and is able to offer loans to customers without relying on a single credit score or meetings with a stony-faced bank manager. Products such as Lending Club showcase how fintech is challenging the very mentality underpinning the financial industry as well as its implementation.
As our lives as well as our finances increasingly revolve around our mobile phones, it is simply more convenient for many users to conduct their banking activities online, and fintech provides a seamless customer experience which cannot be matched by inflexible banks struggling to conduct any meaningful dialogue with consumers in the Information Age. It also brings financial services to the developing world, and to many people who may have previously been left out of the formal banking system: the great unbanked. This is an untapped market of great potential, especially with services such as WorldRemit, which challenges players such as Western Union and allows international transfers to any user who has a mobile phone, where the phone number becomes the account number. The remittances industry is hot property – according to the World Bank, international migrants are predicted to send $601billion to their families in other countries this year; $441billion of which will find its way to developing nations. One of the original fintech pioneers, TransferWise, is doubling in size every year, handling more than $1billion in payments every month: a direct rival to banks that usually carry out these transactions, while performing the same service quicker and cheaper. In fact, international currencies are almost irrelevant nowadays – almost every transaction across the globe is electronic, waving goodbye to the inconvenience of cash and at times unsavoury conversion charges. In this way, fintech is single-handedly changing the world’s economy: solving problems which grand ideas such as the Euro were intended to solve, but didn’t.
The big bank response
Banks and traditional financial institutions have come a long way from their initial stirrings of scepticism and lukewarm interest in burgeoning financial technology several years ago. The bailing-out of several big names in the 2007 financial crisis hardly helped endear them to the public, although they were hardly the prom queen before that either. Preferring instead to take a flabby position on the sidelines, many banks are waking up to the very real and very tangible threat that glossy young start-up companies pose to their traditional ivory tower ways of working. In a 2016 survey from PWC, 87% of payments industry respondents believed that at least some part of their business was threatened by fintech start-ups; the 2016 World Retail Banking Report cites 96% of banking executives who believe that banks need to digitise, but a striking 87% of banks do not have the systems in place to do so. Regulators too are cracking down on banking fees from processing payments and are putting ever more pressure on banks to collaborate with fintech companies. Increasingly sophisticated cyber criminals are developing newer and more innovative ways to batter down the crumbling defences of ageing institutions. Banks are shifting instead to a stance which actively engages with fintech start-ups, whether through acquisition, strategic alliances, investment, or ploughing money into their own research and development. In the first half of 2016, Goldman Sachs, Citigroup and Banco Santander were the biggest investors in venture capital backed start-ups, belying a deeply-ingrained worry of being left behind. Even more recently, Japanese banks are targeting fintech start-ups with increased vigour after a law preventing more than 5% investment in non-financial companies was changed, betraying concerns that Silicon Valley youths clutching Starbucks cups are going to decimate its banking industry as it did with its mobile phones. Twiddling thumbs and sheepish glances abound in the glitzy corner offices of banking CEOs worldwide, as fintech gains increasing momentum, upturns tables and rattles cages of a wide variety of financial niches.
Selfies not signatures? Why banks still have the upper hand...for now
Traditional banks are well aware of the need to be more responsive and adaptive in the face of the meteoric rise of fintech companies and the movement of traditional tech firms into the consumer payments sector, but they need to do so in a manner which does not threaten the loyalty of their long-established customer base and which stays in line with their brand. Banks have every cause to be wary of the hot young things of fintech, but they still very much hold the upper hand. For a start, many of the new innovations rely heavily on the established financial service industry: most services require consumers to hold an existing bank account in order to be able to use them, ensuring banks are still very much the backbone of the industry. Indeed, they actually stand to gain from many new technologies: Apple Pay required the participation and cooperation of traditional financial institutions throughout its implementation, and Square – a service which makes it easier for small businesses to process card payments – will in turn increase the transactions processed through the banks. They also have a huge advantage in being able to offer legacy services which as yet start-ups have struggled to replicate and will probably continue to do so – namely, the security and convenience of a current account and the ability to more or less create credit on impulse thanks to the huge amounts of money backing them.
Banks have been staples of our towns and cities for years, and hold a share of the market force from which the start-ups pale in comparison. The sheer size and visibility of major financial institutions is a reassuring symbol of security for consumers, as well as offering a shelter during turbulent times when smaller fintech companies are more susceptible to collapse. Customers trust the personal touch of a physical sales force, something which start-ups lack in their quest to be as streamlined and cost-effective as possible. Banks are quite simply in too deep – they have been the heart of the economy for far too long and amassed a trust and safety which is not going to topple because of some ankle-biting from Silicon Valley techies. So many years at the helm of all our financial transactions means banks have access to huge amounts of customer information, insights and data records around consumer behaviour – information which start-ups do not. This enables them to calculate risks more effectively and provide services to clients which are more in tune with their needs – if they can be prompted to do so. In fact, the main legacy of the fintech boom will probably be the encouragement to stagnant banks for them to get moving, stop relying on customer inertia and provide higher quality services.
The world of financial technology start-ups is a Wild West of bright ideas and innovation, but this too has its problems. A jumble of companies starting out on their own, embedded in other apps or working in collaboration with existing financial institutions mean the sector is becoming overcrowded and inevitably only a small number of new sprouts will have any lasting success or impact. A lack of regulation means the industry is also susceptible to cyber attacks before anybody really knows what it is, or what it will be, and has had chance to legislate for it. Add to that the at-times lukewarm consumer response – many people struggle to see the difference between similar apps or those which overlap in function, worry about their security and safety, or simply don’t see the point. A survey conducted by Ovum last year indicated that 37% of 16,000 consumers had no plans to use mobile payment services, with almost a third each of those citing security concerns or the ease of using cash or cards instead. Smartphone payments may be the new kid on the block but they have been slow to take off – at least to show any serious promise as yet. A slew of new-fangled technologies vying to transform how we pay includes the option to use a selfie password from Amazon, as well a designer wool suit embedded with technology which enables the wearer to pay for goods with their sleeve – time will tell to see if our clothes replace our credit cards. Merchants too are struggling, unsure of which payment methods they should be offering in the face of this most overcrowded of start-up sectors. With the ability to bring technology to market quickly through social media, cloud computing and app stores, start-ups are brandishing a double-edged sword, where haste takes priority over quality control. With so many ideas being batted around, it is perhaps a wise tactic of banks to sit on the sidelines and see which technologies emerge from the froth.