Digitalization is already transforming retail banking, said S&P Global Ratings (S&P) in a new report, highlighting that the opportunities and threats for banks from tech disruption relate to the state of technology, regulation, the banking industry’s readiness, and customer preferences.
S&P believes today’s traditional banks have no other option than to digitize their business models. If they execute that well, they can better defend and potentially expand their franchises, and possibly offer new products or services. If not, their market positions and profitability could shrink.
Digital solutions will not only allow banks to attract more clients and open up new revenue channels, but also become more efficient, all keys to succeeding in tomorrow’s digital environment. Such considerations form part of its assessment of banks’ business positions.
In S&P’s view, the increased transparency and further commoditization of retail banking services will likely reduce banks’ traditional revenue potential by more than 20 per cent, with more servicers competing for the same client pool. S&P think revenues might be even more at risk in markets with high-margin consumers, where mortgage lending is being commoditized faster.
This situation represents a challenge for banks’ business models, since retail banking generates on average about 50 per cent of total banking revenues.
What’s more, technology is a leveller. S&P believe the barriers to entering the banking market have reduced materially and are structurally altering the competitive landscape. The cost of launching a digital retail banking product for a fintech company is now marginal compared with that for a traditional bank operating from a brick-and-mortar branch network. It is against this backdrop that S&P carried out its tech disruption survey to show where banking systems stand with respect to fits broad areas: mobile banking, cloud computing, artificial intelligence, and blockchain.
Change has already begun
Traditional banks are already bracing themselves for disruption. According to KPMG, 73 per cent of the $100 billion poured into fintech investments over 2012-2017 were for innovation in banking services for retail and small and midsize enterprise (SME) clients. Fintech and Big Tech companies have already spotted the weaknesses of traditional banks, many handicapped by complex legacy systems, limited capacity to invest, and low customer confidence. On the other hand, some tech players are using their readily available know-how and material budgets to enter the financial services market.
Although the environment for banking systems varies across the globe, S&P believes banks will increasingly adopt new technologies, and all will eventually go digital. In its view, new technologies will enable currently unbanked or underbanked individuals and SMEs to better access banking services, particularly in emerging markets.
This trend is already visible in China and many developing economies, where smartphones are spurring greater financial inclusion, opening up access routes for bank service providers and for society as a whole by serving residents that previously had no access to banking services. At the same time, S&P expect banks in Europe and North America to first seek to reduce costs and only then increasingly invest in digital banking solutions to create additional revenue streams.
Technologies at the forefront
S&P believes the availability and fast development of technology will lead to a structural shift in the banking industry. S&P expects four technology types will gain in importance and represent important considerations in determining the winners and losers in retail banking over the next few years.
Fully digitized and convenient ways to offer and execute services and products will enable banks to onboard and retain existing clients. Simultaneously, banking will be more easily available to the unbanked or underbanked population and to SMEs, facilitating greater financial inclusion. The comparably lower incremental investment versus running a large branch network will further lower barriers to entry for new competitors.
This is a prerequisite for the storage and processing of vast amounts of information to improve capacity for innovative products. Cloud computing provides the power needed to commoditize unstructured data, allows banks the flexibility to scale their IT infrastructure up or down, and reinforces the resilience of cybersecurity because of simpler update solutions.
Artificial intelligence (AI), machine learning, automation, and robotics
Thanks to their information-rich client data, banks, with the help of AI and related technology, will be better able to offer tailored services. S&P believe this technology will allow banks to expand revenues by better understanding client behaviour and preferences. At the same time, AI-based solutions will enable banks to establish state-of-the-art “know-your-client” processes and compliance systems to better prevent reputation and financial risks stemming from criminal activity.
Distributed ledger technologies and blockchain
S&P expects this technology to allow banks to transact business more efficiently and securely. Although S&P still believes current use cases to be marginal, blockchain application might result in a leaner way to execute structured transactions. Banking regulation will also need to adapt, and the digital literacy of potential product users must improve for banks to fully leverage blockchain solutions.