“Fintech” now is much more than another buzzword in the financial services vocabulary. This compound noun represents a fundamental challenge to banking dominance in providing those services.
Technically, fintech, which collectively describes a category of financial technology providers, primarily startups and primarily not affiliated with traditional financial institutions, is not new.
Banks, after all, have contracted with third parties to provide tech services for decades. In fact, some pretty veteran providers pointedly refer to themselves as fintech firms if you happen to not include them in that number.
What is new is the sheer proliferation of new companies offering—and delivering—services that are orders of magnitude better, cheaper, and in ways much more innovative than ever before. More important, some—many—of these new companies bypass traditional banks and offer services previously offered only by financial institutions.
They are technical disintermediators, in polite terms; voracious competitors, in other words.
No one can ignore fintech
PwC puts it this way in a recent essay on 2016 financial services trends:
“This year, the banking industry faces a notable challenge that it can no longer attempt to downplay—one that can be summed up in a single word: fintech …
“In such fields as online lending, money transfer, and credit ratings, fintech companies are breaking the dominance of financial services’ largest players in novel ways.”
Similarly, Jay Reinemann, managing director of BBVA Ventures, in that company’s blog earlier this year, concludes:
“The battle between digital financial services companies and the incumbent financial services industry is nascent but the public markets will continue to shift value to the challengers,” he says.
These and other analysts collectively sum up the interconnected reasons for this sudden fintech rise:
• A significant upswing in venture capital funding for fintech innovators.
• Exponential growth in customer preference for new and better digital access and options.
• An existing financial institutional structure bogged down by legacy systems and outdated corporate vision.
Now, let’s examine each of these more specifically.
PwC says global funding of fintech startups in the first three quarters of 2015 reached $11.2 billion, nearly double the funding of the full year before. KPMG International pegged the full-year 2015 fintech funding at $19.2 billion, a 106% jump from the previous year. BBVA Ventures similarly estimated global fintech investment would top $20 billion in 2015.
“The growth in investment is a clear sign of the health of the financial technology ecosystem,” says BBVA Ventures’ Reinemann.
Also, says Warren Mead, global coleader of KPMG Fintech practice: “2015 was a tremendous year for fintech investment around the globe. The evolving needs of digitally savvy consumers and the drive for efficiency, not least to meet regulatory and compliance costs, is propelling innovation in financial services like never before—and investors are taking notice.”
The fintech world is becoming white hot. For example, a group called The Venture Center, in partnership with FIS—that major financial technology provider used by thousands of traditional banks—is sponsoring a “VC FinTech Accelerator,” in which ten selected startups will be admitted to a 15-week program. This is intended to focus on emerging technologies and innovations in financial services. Those selected will get an initial $50,000 investment, plus the opportunity to pitch for up to $300,000 in additional investment at the end of the investment.
“Startups innovating in analytics, cognitive computing, cybersecurity, bank back office, investment management, wearables, and wallets (among others) should apply for this unique program. There is no other place on earth where a founding team can gain access to leaders from the largest global financial software company,” says Lee Watson, president and CEO of The Venture Center.
This is an example of a growing trend, to sponsor new and growing players through such incubators. Individual large banks such as Wells Fargo, through its Startup Accelerator, do it now, as do consortia of institutions, and other organizations with connections to financial services.
Again, Reinemann puts this succinctly: “2015 saw a new acronym—HENRY—enter the lexicon. Standing for High Earning, Not Rich Yet, and applicable to high-earning, mainly millennials en route to joining the ranks of the affluent, this segment saw a range of companies spring up to meet their needs. … These are businesses that are trying to do something very different in financial services. They’re building businesses for people who are used to doing everything online and expect a level of service they’re used to from their favorite online brands.”
Legacy, corporate issues
A couple of recent analyses about changes in small business lending puts this in perspective.
Aite Group points out that alternative lenders have doubled their outstanding portfolio balances every year since the mid-2000s, unburdened by regulation, using new algorithms and alternative data sets to book more loans faster and take on more risk than their traditional bank rivals.
“The threat of alternative lenders should not be ignored, especially given the high percentage of businesses likely to use one in the future,” says Christine Barry, research director at Aite Group. “Twenty-six percent of businesses surveyed state they probably or definitely will consider using an alternative lender the next time they need credit.”
Meanwhile, a separate survey by Greenwich Market Pulse comes to a similar conclusion. It found that nearly a quarter of U.S. small businesses moved banking business from one provider to another over the past year. The most common reasons given: dissatisfaction with their bank’s representative or relationship manager; excessive fees; cumbersome paperwork;and difficulty using online banking.
“It’s clear that many small businesses and midsized companies are not satisfied with the service they are getting from their banks,” says Dana Schwaeber, Greenwich Associates consultant. “For banks, the risk today is not just that unhappy companies might shift business to rival banks. Companies now have the option of switching to nonbank providers that are leveraging regulatory and technology advantages to deliver high-quality service and competitive pricing.”
Turning competition to something better
So what should banks do, in relationship to these new fintechs? The consensus seems to be: Don’t fight them; join them.
Krishnan Ramachandran, an analyst with IBM writes in that company’s financial services blog: “Banks have been quite active in their own digital transformation journey by launching direct banking initiatives, launching apps marketplaces, conducting hackathons with their financial ecosystem partners including the fintechs, and also acquiring digital agencies or direct banks.”
BBVA Compass’s Reinemann says: “There’s actually a lot to be gained for both banks and online lenders to work together. Banks want to better serve their customers as well as reach new customers they otherwise couldn’t with existing products and footprint. Online lenders benefit from banks bringing customers and capital to their platforms.
“Partnering with the right alternative lender can not only result in helpful learning for the bank but also healthy competition for its own products and more business in the long term.”
Brian Hughes, coleader, KPMG Enterprise Innovative Startups Network, says: “Over the past couple of years there has been a significant shift as banks have moved from seeing fintech companies as disruptors to co-creators. Today, many of the banks are increasingly collaborating with fintech companies to access new markets and strengthen the user experience of their customers around the world.”
PwC’s essay makes a similar point: “It is now a financial-services maxim that companies must break down internal silos and do a better job of sharing customer data throughout the organization … In our view, becoming the center of a fintech ecosystem takes this service-oriented approach only one step further (though, granted, it is a big step.) Instead of inserting front ends into the platform, you knit together links to disparate external players.”
Banks can’t leave whole relationship to IT
However, PwC stresses an important caveat, which banking leaders must not overlook:
“Because this approach to fintech will cut to the very heart of the organization, its management cannot reside strictly in the technology group. Technology planning must become integral to the C-suite discussions. Nontechnology executives on your team will need to become more tech savvy than is typical of most business managers in the industry.”
Sources used for this article include:
- Wave of M&A Predicted to Hit US Community Banks
- Why Wells Fargo Is Looking to Exit the Asset Management Business
- Bank Customer Satisfaction Rising, ABA Reports
- Bank On It: How to Serve Underbanked Communities
- PPP: SBA Issues Guidance on Changes in Ownership and Full Forgiveness Eased for Smaller Loans