Innovation seems to be back on the menu for many of the leading Financial Services players in 2011. It is a different type of Innovation though: it comes with a sense of urgency and a need to radically transform the business. It has moved from the category of a “nice to have” to a “need to have”.
Why is that? Mainly because many of the traditional Revenue and Profit ‘carpets’ have been pulled out from under the feet of the industry. The Volcker rule and Durbin amendment are cutting into prop trading, interchange fees and overdraft fees. Depressed home prices and lower consumer and small business loans are putting pressures on traditional sources of revenue and a generation of internet natives (should say mobile natives) equipped with overwhelming technology firepower (facebook credits, mint.com and all mobile enabled of course) are adding more competitive pressures to the mix.
All hope is not lost. The risk environment is slowly improving, as evidenced by decreasing charge-offs and unemployment rates. However, it is all but certain that the competitive differentiators in the coming years will be different.
Take for example a typical retail banker who has seen very little change in the branch since the introduction of the ever improving ATM machines. Their world is completely changing; mobile banking, with such sophisticated features as Remote Deposit Capture (an image-based check deposit capability) is changing the way clients bank. Traffic is down in branches and bankers want to know whether they should go to a franchise model such as SNS in Holland, use a distribution partner such as USAA, reduce the size of the branches and create ‘hi-tech self service’ locations or recapture the role of the branch as a ‘social-networking connected Community center’ such as Umpqua.
The situation is not much easier for the Payments exec, who’s trying to figure out whether Google with its next generation of NFC equipped mobile phones is about to make payment revenues (interchange fees) obsolete and replace them with advertising fees derived from the ability to link virtual ads served on your PC/mobile to physical fulfillment. Or maybe the Telcos with the Isis alliance are set to become a dominant player. Not to mention the regulations impact threat for the profitability of debit card transactions that the pre-paid alternative cannot easily mitigate. Not an easy situation to be in when up to 25% of revenues for retail banks are derived from payments.
Thankfully, the Wealth Management sector is doing well, with the wealthy segments of the population having recovered most of their pre-crisis asset valuations. Not really says the Wealth Manager: competition for assets is intensifying, customers are more demanding, and geographically spread out with much of the wealth happening in growth areas. Additionally, the upcoming generational wealth transfer has to be carefully managed given the typical single digit advisor retention levels, when assets move from parent to child.
What about the investment banker? Well, with prop(rietary) trading ‘banned’, a very lucrative source of income is disappearing. It is threatening the exodus of some of the best people who might find it more profitable to move to smaller less regulated hedge funds. Also, while the search for new sources of value is underway, it is rather certain that investment banks will need to look into cost cutting during the transition phase. Cost cutting: does that mean fewer trips, potentially more restrictions on discretionary spend! Huh? Unheard of in a culture where no one counts eggs when making huge omelets!
This is why I believe we are about to start a fascinating new chapter in banking history, one where ‘financial wizardry’ will not be the sole source of Innovation anymore and where ‘technology-enabled innovation’ will become an essential element for competitive differentiation. Stay tuned …