Neo Banks Transforming The Fintech Ecosystem

Open skies, non-congested motorways, and quick travel; many sci-fi movies right from the 60's gave us dreams of flight. Today this has become a reality with Dutch based Pal-V’s Liberty Car claiming to be the first prototype of a flying car in the world. Although banking as a whole has seen a similar, sesmic shift, the digital makeover of banks still unfolded surreptitiously. It was largely influenced by the recession of 2008, the emergence of alternative currencies like bitcoin, the need to strengthen the foundation of banking from its precarious footing and the instantaneous globalization of the economy necessitating transactions become seamless, quick, and real-time.

Core banking began as a tangible, in-person set of financial services that needed constant interaction, give and take, backed by referrals, and established on trust built over many years. This kind of system was set to be unshakeable, given the kind of validation that was needed where money was concerned. Today, with consumers driving many facets of banking, influencing regulations and policy decisions, taking matters into their own hands and making financial transactions a part of their everyday lives, it has become imperative that banks go to them. What better way for this than digital-only banks also called as Neo Banks.

THE INCEPTION

The economic crisis of 2008 brought down the global banking ROE from 15.2% to 9% in 2017. It’s been hovering at this scale for the last decade. Although the industry is resilient in the longterm, it has to make quick moves. Banks can either embrace digitization, increase tech spends, and undergo digital transformation to stabilize and increase their ROE, or miss the opportunity and fold up to challengers.

The banking ecosystem faces several challenges today:

Legacy infrastructures Impeding Adoption of Digitisation - What was a boon for traditional banks is now being considered as an impediment to quick growth. Many banks are lagging behind in adopting new processes. Although it gave them safety and security earlier, legacy systems are causing slowing down of transactions prompting banks to adopt stop-gap solutions or only have part of their systems digitized. In 2008 banks like Barclays, Natwest faced significant outages because banking systems couldn’t keep up to the increased demands. Monolithic core banking systems have been facing continual problems in knowledge transfer, skills gap, and undocumented logic making them more complex and insular.

To address the above, many banks are partnering with fintech companies and cloud service providers like AWS thereby converting a part of their legacy systems to digital formats. This way banks will be able to upgrade, become agile, and work with new tech that adheres to new regulations factoring in consumer needs.

Increased Pressure From Fintech Companies - New fintech companies are increasingly becoming capable of replacing all kinds of services in the banking value chain. At the speed of evolving that banking is going through today, it is no surprise that incumbent banks are finding it hard to please customers especially millennials who are constantly looking for secure and anytime access. Costly wire transfers and complex payment systems are increasingly being viewed at with annoyance, prompting a greater shift to new fintech players.

Government Regulations Increasing Pressure - With regulatory expectations being enhanced, banks are increasingly having to increase costs of security and compliance putting an additional financial burden on banks. Globally, banks have been paying more than $270 billion for regulatory and compliance mandates. In absence of implementation, they are even being made to pay fines. Some global regulations like PSD2 are even mandating that banks open their APIs to fintech companies or risk losing their licenses.

Tech Giants Are The New Banking Mavericks - It is increasingly being observed that tech giants like Alibaba, Google, Facebook, Microsoft with a large base of operations across industries, are also opening up their financial services market to be able to deliver enhanced convenience for users. Huge data pools, technological advantage, and better customer experiences are making them leaders in the finance ecosystem and a one-stop solution for consumers - save, pay, lend, invest, borrow. Chinese tech companies like Alibaba and Baidu have a major advantage, with the former having ventured into almost all key fintech segments already.

Running Physical Banks In a Digital Era - It is being increasingly seen that bank branches are reducing the world over. Costs of physical spaces going up and reduction in customer visits are making the space unproductive. Besides this, it is difficult to track customer interactions at a physical space which can also suffer from poor maintenance and too many overheads.

Increased Customer Expectation and Engagement - Customer experience has become the paramount factor today, and only digitization seems to be offering a way out. Physical banks slowly began to become cumbersome for customers after the 2008 crisis and this prompted the adoption of quick, seamless digitization to make services easy to access. Sensitivity to pricing, a penchant to leave feedback - both good and bad - and greater access to information are all continuously swaying customer behavior.

EMERGENCE OF NEO BANKS

Digital banks called Neo Banks emerged from the need to leverage technology for better reach, while bringing costs down and working on new regulatory mechanisms. Innovation has been the key propeller of this model. The banking architecture is built on a specific secure framework called tech stacks that are regulatory compliant, highly secure and very efficient.

These challenger Neo Banks are of two types - Digital-only Banks and Over the Top Banks. While the former operates with a full banking license, offers products on their own, the latter uses other’s banking licenses but only serves as digital platforms for front-end processing. The advantage of Digital-only Banks such as WeBank and Monzo is their ability to reduce costs which can be passed onto customers, as well as seamless tie-up with third-party fintech solution providers. Over-the-top Banks like Open, Chime and Tide, either offer single products or a bouquet of financial products in partnership with existing traditional banks and fintech firms but at much lower costs. Some of them may even be marketplaces.

Neo Banks are very advantageous and there are many transformations they can bring about in the financial landscape. Some of these include;

• Faster and quicker integration of products and services into existing platforms
• Connects consumers faster with third-party platforms giving a better experience
• Banks serve underserved consumer segments thereby enhancing customer acquisition
• Faster opening of accounts, payment transfers, deposit, and other processes
• Better International payments and remittances, with debit cards at no fees and with live exchange rates. Revolut app is a case in point allowing 25 currency exchanges with no fees
• Money tracking and account aggregation made easy. The money management app Tandem uses AI to help users track their financial usage.
• Credit products are offered at lower charges compared to traditional banks

The Neobank market which was $18,604 million in 2018 is expected to grow by a whopping 46.5% by 2026. The bank's digital applications, smartphone accessibility, and centralized access makes them easily adoptable and accessible anytime, everywhere and across all gadgets and platforms.

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These articles are my personal insights and experiences running companies across finance, education and technology. Do reach out to me to share specific insights you may have and don't forget to share this with your community.

Co-authoring this piece with Charmaine Kenita, on my learnings in FinTech, Real Estate, future challenges, and mapping the way forward.