A New Fashion In Fintech Investment

Investment follows fashion in a sense. In the last few years venture capitalists have been pouring money into neobank startups thus creating a trend for other VCs to follow. However, John Detrixhe says,

“Questions are being raised about whether this fintech craze is another quixotic quest for market share that burns cash but doesn’t generate much profit in return.”

The most ambitious neobanks, namely N26 and Revolut, want, he suggests, to be the Amazon of finance, and they are proving to be very successful at picking up new customers. According to Accenture, digital-only banks operating in the U.K. could amass a total of 35 million customers globally within the next 12 months — up from 13 million today — based on current growth rates. The report also says, “Digital-only banks are also reaping the rewards of improving the customer experience as they gain an average Net Promoter Score of 62 compared to just 19 for traditional banks.”

Naturally, they are having to face the incumbent banks, which can’t offer the same service. But, we should be wary. As Detrixhe says, if you look at Uber and WeWork, for example, “these have shown that rapid growth and high valuations are far from a sure sign of success.” Furthermore, it is impossible to say if customers will continue to use them as niche providers of peer-to-peer payments or travel spending or fully embrace them as a one-stop-shop for financial services.

Some investors are now looking beyond the neobank buzz and are moving onto another fintech sector. For example, on hedge fund founder, Steve Cohen, thinks traditional banks won’t be disrupted by the unicorns. But, he does think the banks will have to learn some new tricks. He suggests “Older lenders need things like cloud-hosted software and systems that make it easier to sign up for a new account.”

And that is where the new investment opportunity lies; in software for digital account openings and machine learning systems to make recommendations to customers. It’s not quite as sexy as investing in a startup neobank, but these software startups could help traditional banks leap into the 21st century, and in that respect they could serve as neobank killers.

What do banking innovators have in common?

There have been many studies, blogs, book,s newspaper articles, etc on the qualities entrepreneurs have in common. Now the Digital Banking Report’s “Innovation in Retail Banking” gives us a view of how innovative leaders in banking perform.

According to The Financial Brand, these banking leaders share three important characteristics: they generate greater profits, they leverage new technologies, and those of advanced analytics. As a result they achieve higher satisfaction scores.

Why is this important? The simple answer is, because the financial institutions need to embrace innovation and join the digital revolution. That requires strong leadership and a certain amount of fearlessness. Those leaders will need to challenge the current system, as well as push the limits of the available technology. But, perhaps most importantly, the banks need to put the spotlight on the customer, and they need innovators who understand this.

Complacency is the banks’ biggest enemy, and it is something they are finding it tricky to get around. After all, they have been around for hundreds of years in some cases, and have a sense of entitlement. If their shareholders seem content, and the majority of their customers happy, then why do anything to move with the times? This attitude is what is helping the digital challengers.

The neobanks have discovered ways to deliver a more keenly price service and a better customer experience. As the Financial Brand says, “Unlike the iterative innovations from the past, a premium is now being placed on “big ideas,” agility, and real-time application of data for personalized contextual experiences.”

What the banks need to do

For the banks to embrace innovation, they need to think in terms of interdepartmental co-operation, as well as being prepared to break up their legacy systems and rethink them. They also need to look outside their own world and find more opportunities to collaborate with fintechs and look at a range of more up-to-date solutions. They should be incorporating AI, robotic process automation, blockchain and the Internet of Things amongst others into their thinking.

There is also a pressing need to retrain employees. The Financial Brand points out that we are facing a skills shortage, so the banks not only need to embrace retraining of existing workers, they also need to rethink their hiring strategy and bring in more of those people who have been immersed in digital technology since their early years.

The leaders in banking who will win this game are those who are able to embrace these challenges and take their organisations into a new future. The banks without leaders having these qualities will surely get left behind.

 

How to be a winning neobank

In Europe the neobank sector is looking very healthy. It has been boosted by the implementation of PSD2 (Second Payment Services Directive)

This September, otherwise called Open Banking. This effectively means that all the incumbent retail banks have to “release their data in a secure, standardised form, so that it can be shared more easily between authorised organisations online,” as WIRED reports. Open Banking has been happening in stages since 2017, but now we have reached peak Open Banking.

This new legal framework, along with the creation of EMIs (Electronic Money Institutions) supported by PSD1, is about to revolutionise user interaction, and it will also make a major contribution to the rise of the neobanks. It basically gives them an even greater opportunity to increase their market share in the retail banking sector.

However, there are some issues. The neobanks can’t yet offer all the services that the traditional retail bank does. That is not because of regulatory issues, or an inability to deliver a service, but because they don’t have enough funds. While neobanks may raise capital during funding rounds, and even though it may look like quite a significant amount, the big retail banks already have much more capital than any of the neobanks in their coffers.

Customer trust is another issue, especially for those consumers who are used to having a bank branch to visit. The concept of a ‘virtual’ bank with no branches makes them nervous. This has not been helped by some of the neobanks experiencing security issues. For example, Monzo asked a large proprtion of its customers to change their PIN when an unexpected level of fraud was discovered. Hacking is a security concern, as is data privacy. The latter is a problem for all banks, but neobanks are especially vulnerable.

We are also seeing the incumbent banks step up their digital activities through acquisitions, which they can easily afford. Neobanks cannot compete at this level, not can they become more exposed to risk at any cost just. There is a very real opportunity for neobanks, because they are more agile and can offer a better consumer experience, but what they need to work on now is building up consumer confidence — the neobank that nails this one, will be a winner.

Bank-fintech collaborations are the way forward