It is no secret that the banking industry faces enormous challenges over the next few years. The 2008 crash has inspired an unprecedented amount of government regulatory initiatives that have forced banks to spend billions of dollars in order to stay in business while limiting the business that they can conduct and the profits that they can make. The Anti Money Laundering and Foreign Account Tax Compliance Acts have practically turned banks into an appendage of government tax and law enforcement, at the banks’ expense. The Volker Rule has limited a bank’s ability to make profits from its own proprietary trading or from the trading of hedge funds. Meanwhile, the Internet has spawned fintech investments in numerous companies that have taken consumer businesses like lending, brokerage, investment, payments and credit card business away from banks. The revenue base of banks is shrinking and their cost base is increasing.
Enter the Millenials, who are used to conducting most of their lives through their cell phones, and the whole outlook becomes even bleaker. They want to buy goods and services on their mobile device. They expect immediate gratification. iTunes delivers music on-demand, companies like Amazon can deliver them a huge array of physical goods in under 24 hours, and many even find their next date on Tinder. Wait is not a verb in their vocabulary.
Banks first responded to the Internet by putting a browser in front of their existing processes. Now they are responding to the mobile challenge by putting a library of simple mobile applet libraries in front of those same processes. The processes themselves originated at a time when banking was a face-to-face, paper-intensive activity. As computers came onto the scene the paper was, and in many cases still is, digitized by having clerks key information into their systems. This takes time. But time is something the Internet is compressing.
People who are used to Internet time will not wait days to get an auto loan, or weeks to get a mortgage. Banks will have to earn their share of a customer’s wallet by providing the most competitive rates and the best service in the shortest amount of time. In the past they may have found creative ways to avoid head-to-head competition with other banks, but today they have to get used to working through aggregator sites that let their customers comparison shop in an openly competitive environment.
Banks face a number of challenges building their own systems that operate in the new ways. Perhaps their biggest one is that most banks, believe it or not, do not know their customers as individuals. When a person gets a mortgage from a bank, he or she becomes a mortgage customer. When that same person gets a credit card at the same bank they become a credit card customer. The banks’ transaction systems do not typically understand that this is the same person. Most banks do not have a platform that gathers all the information about the individual in one central place. It is hard to give someone a special deal on an auto loan through an aggregator web site if you do not know that they already have accounts with you and that they are a good customer. The same challenges exist for corporate clients as well.
The reason for this dilemma is that most large full-service banks are really an amalgam of different businesses. Each business picks its own technology, and more often than not these systems do not communicate. This is in sharp contrast to Internet companies, which tend to launch multiple businesses from a shared technology and operations platform. This contradiction causes a lot of frustrations for the banks’ CEOs and business line managers, who would like to have a 360 degree perspective on the profitability of each individual customer. Regulators are also putting increasing pressure on the banks to run their businesses and manage their risk in a more holistic fashion. Anti-money-laundering initiatives require banks to identify and treat their customers as individuals, not as a set of disconnected transactions.
Banks need to get the delays out of all of their lending and payments processes or their Internet-bred competitors will continue to take market share. Brick and mortar physical locations will become less relevant as things like e-notary services become the norm and all documents become fully digitized. Skype, e-mail, and new services like Facebook Messenger will replace face-to-face contact and brick and mortar completely for most types of consumer transactions.
Banks are also losing ground to their Internet-bred rivals in investment management and brokerage. The human investment managers have too many accounts to monitor, and there are few automated tools to take up the slack. The fintech industry is moving towards fully automated investment planning and a pay-for-performance model that is alien to most banks. They are used to collecting fees regardless of the investment outcome. But consumers want an investment advisory service with fees tied to their investments’ performance.
Does this mean banks will be relegated to the ash heap of history? Maybe not, but the Internet and mobile devices have created a glaring opportunity for transformation in yet another industry. Taxi and limousine companies coexist with Uber because local regulations make it difficult to cut them out of the value chain. Similarly, banks have learned to live with companies like Apple, PayPal, and Intuit’s Quicken.
The interesting question is, what would happen if one of those companies decided to form a bank on top of their pre-existing centralized, fully-automated, scalable, high-performance infrastructure? Many in banking are already fretting it could happen, with worried eyes focused most intently on Apple. If banks don’t change, they could disappear.
Mike DeSanti is a high performance computing expert who has spent 20 years building trading, lending and risk management systems for major banks and hedge funds.