Crisis Innovation: 6 big trends that financial services can take advantage of right now
- COVID-19 is creating a lot of stress on consumers, businesses and the financial institutions that service them.
- This creates an opportunity for firms to take advantage of some of the larger trends at play.
Josh Liggett is an investment associate and fintech lead at OurCrowd. Josh and/or his firm may own positions in some or all of the firms mentioned.
The COVID-19 outbreak has already changed the way much of the developed world lives and works (or doesn’t work). While many sectors, such as travel and healthcare, will be completely different in the post-COVID-19 world, there will most likely be no paradigm shift for financial services. Unlike past crisises, the current one was neither caused by a massively overvalued investment with little traction (as in 2000) nor by a failure in the financial system itself (as in 2008). Thus, we are likely to see only the acceleration of recent tech trends that will enable financial services players to survive or even thrive in the current environment.
Most important of these trends is the drive to digitization, with financial institutions rushing to implement many of the digital tools they had available but didn’t prioritize or integrate fast enough.
New fintech companies may have an advantage in the race to digitization and are set up well to deal with the current crisis. Fintech companies such as Square, Adyen, and Stripe provide retailers easy access to online payments. Unicorn insurance provider Lemonade provides full coverage to policyholders through its proprietary AI chatbot. Plaid, fresh from its acquisition by Visa, facilitates data aggregation and seamless user experiences. Many fintechs are already running global teams with applications like Zoom and Slack, so while offices are closed, many can have operations as close to “business as usual” as possible during these trying times.
For traditional financial institutions that haven’t fully embraced the digital age yet, it’s time to move quickly or risk losing market share. Incumbents that were used to a large portion of their relationships with clients being defined by face-to-face meetings have to figure out new ways to operate. This means dramatic changes in various business areas, from revamping bank branches to allowing employees access to internal banking systems while working from home.
Furthermore, many digital fintech tools can help institutions lower costs, increasing profitability during the uncertain times of the COVID-19 crisis. Building in-house digital tools such as natural language processing solutions for reading loan applications or managing and organizing content from multiple communication channels will be too difficult or time-consuming to build from scratch. Financial institutions are going to be looking to partner with fintechs in order to digitize their services and/or provide new offerings to customers. Those who are open to change and are willing to move fast can survive this crisis and emerge with more weapons at their fingertips.
Trend 1: Bridging Legacy Systems
Many financial institutions are still not ready for digitization. They’re built on top of old and outdated systems in need of a back office overhaul to even begin trying to implement new fintech products. While some of the bigger banks have invested heavily in digital transformation, a vast majority of the industry has not transformed their back offices yet.
Recent reports confirm that financial service providers are way behind the rest of the world: 55% of banks report a lack in digitally maturity. A 2017 study by Celent, Accenture, and IBM found that 43% of banking systems were built on COBOL, a programming language from 1959. Further proof that little has changed in the last 3 years is a CNN report that, among other states, New Jersey is lacking in COBOL programmers that are needed to help old and outdated banking mainframes handle the surge in unemployment claims. So while a bank may get pitched on the latest and greatest fintech tool that would fit incredibly well for the COVID-19 crisis at hand, more than half of the industry will most likely not be able to implement that solution.
This may be an even bigger problem for community banks, insurance companies, and other smaller players without massive IT and innovation budgets. Fortunately, there are companies specializing in solving this problem, either by building a new system from scratch (massive software providers like IBM or AI operating system provider BlackSwan Technologies) or building a bridge between the old back office and new digital tools. The latter is a technology layer that serves as an “adapter” between the legacy system and new digital tools, allowing banks to overhaul their back office virtually. OpenLegacy claims they can create API keys in just a few weeks for outdated systems. Overhauling a system may be a bit costly and might intimidate some senior managers, but is essential in order to compete in the new COVID-19 reality.
Trend 2: Remote Work
Along with companies in almost every other sector, financial institutions have had to deal with the new reality of working remotely. Many have already speculated on the macro trends of moving remote (decrease in commercial real estate prices, fewer car sales, etc.), but financial institutions are in a unique situation. Consumers are still used to going to branches for their banking, and even for those who wish to interact solely via digital channels, many banks don’t even have online applications/solutions for completing loans, opening accounts, etc. Also, many employees need to work connected to banking servers or need extremely fast fiber connections for real time information.
Banks and regulators have begun to adjust to this new reality. FINRA came out with new guidelines to help deal with financial companies working remotely. JP Morgan Chase is testing a plan called “Project Kennedy” to move 10% of its consumer banking workforce remote.
But remote work creates additional needs for banks and their employees. Virtual Private Networks are needed to allow remote users to connect directly to a bank’s network. This translates to additional cybersecurity risks on two fronts: the VPN, home computer, and smartphone serve as vectors of attack for hackers to infiltrate banking networks, and additional measures are necessary to authenticate an employee’s identify. ITsMine provides a solution protecting organizational data proactively, seamlessly, and automatically, while simultaneously improving corporate compliance. PerceptionPoint and Morphisec provide next generation endpoint threat detection of malware attacks for digital enterprises. Both companies work together, as Morphisec protects the endpoint devices themselves and Perception Point sits on the ever-growing digital communication servers to spot threats from email, Slack, Dropbox, and other tools. Two-factor authentication and hardware security solutions such as HUB Security are examples of the many ways companies will need to protect their remote workspaces.
Setting up remote access is a complicated IT undertaking. Identifying, evaluating and implementing the right technologies often becomes a lengthy process that take months. prooV can set up a nearly identical but mimicked production environment that allows to evaluate multiple vendors at the same time without exposing company data.
Trend 3: Off-branch Customer Experience
Now that branches, offices, and on-site meetings are limited, financial institutions need to reinvent the way they communicate with their customers. Lemonade has shown the insurance industry that this is possible, where the company’s app is the center of its customer service. BlueVine, Fundbox, EZBob, and Kabbage have had similar success with small business lending. EasySend is helping financial institutions create, deploy, and maintain smart forms like loan applications, onboarding, and other tasks.
But while many institutions may choose to partner with fintechs for services, they still need to better communicate with customers. While this can include call centers, zoom calls, and emails, it provides a problem for keeping track of customer communications, both from a customer success and a regulatory standpoint. This is where Natural Language Processing comes in, with many companies providing solutions that can aggregate and categorize conversations, emails, and other communication channels with customers. NLP is also the basis of many of the chatbots that can provide customers with quick answers to their questions, something that will be essential as more and more people move to digital banking.
Trend 4: Robotic Process Automation
Robotic Process Automation has been one of the hottest trends in fintech even before the crisis, and it’s no surprise once you understand everything RPA can do. RPA is a standard term of a virtual robotic workforce that automatically performs mundane, repetitive tasks alongside humans. The financial sector is littered with these types of tasks, and RPA companies have already automated various chores, for example: managing the process of replacing lost or stolen credit cards, reconciling scanned files with consultants’ time sheets, and monitoring new regulations for compliance.
The COVID-19 crisis makes RPA even more important. Companies choosing to cut their burn rate and maximize employee efficiency can use RPA as a supplement to help with workflows.
The RPA market is already well established, with multibillion-dollar RPA specialists Automation Anywhere, Blue Prism, and UiPath leading the market and companies like Pegasystems and NICE including RPA as a part of their product suite.
Kryon provides RPA with a twist: it offers a patented machine vision feature called process discovery. This allows Kryon’s software to automatically understand what tasks should be automated, permitting a smoother adoption process. For example, an insurance provider needed to visit 26 different bank websites to check the account status in each, verify that claims payments were made properly, and update them. Manually this took four days a month to complete. Kryon completed it in two hours.
RPA will continue to grow as more companies recognize the incredible power this technology can provide.
Trend 5: Digital Identity
Digital identity is something that the entire tech world has been speaking about for some time. The concept of the “digital locker” where someone keeps all their information, be it ID, medical history, banking information, and anything else capable of being digitized, has been something of a holy grail for the financial sector. Realization of the dream has been slow but the COVID-19 crisis might accelerate the pace.
Suggestions are already being made that air passengers will need to prove their medical wellbeing before flying. With social distancing and many government offices closed, digital solutions will be needed to allow people to get their identification papers, and sending a digital ID is a more effective and efficient method. This happens to be one of the most popular use cases for blockchain technology, with many companies and platforms looking to create the framework for the digital locker concept.
Nevertheless, real progress will require standardization as well as agreement amongst multiple parties in different sectors using disparate back-office systems.
There is a more pressing issue, especially for financial institutions. In the new era, customers may need to open up accounts without ever entering a branch. Financial institutions will need to authenticate that a user is really who they claim without being able to hold their ID card in their hands. KYC (Know Your Customer) will extend beyond a regulatory framework to become “Know (if this is) Your Customer.”
While two-factor authentication, more complicated passwords, and other measures can be taken, they don’t truly provide the digital identity that many institutions will be looking for when moving significant funds. Trusona and BioCatch are two companies that are both helping to provide validation of digital identities, specializing in identity theft protection and biometric profiling, respectively.
Trend 6: Cashless
Many people over the past few years have floated the idea of abandoning paper money. Sweden, for example, is planning on introducing its own digital currency in 2021 and to become cashless by 2023. A leaked early draft of the U.S.’s Caronavirus Aid Act considered a “digital dollar” as a part of the stimulus.
The reasons for this are quite simple. First, social distancing makes the use of cash and even some credit card transactions difficult to manage. Paper cash can be a means of COVID-19 transmission. Cutting out cash would be a way to push contactless payments forward, pressuring stores to upgrade their POS terminals and people to use smartphones for retail shopping. Second, a digital dollar would allow the government to distribute funds to individuals and families with a few keystrokes.
While the idea of a digital dollar didn’t make it into the final bill that was passed, it does provide insight into where the world is going after COVID. While many banks are already connected to payment tools such as PayPal or Zelle, there are significant changes in the offing that affect current sources of revenue, such as the end of the ubiquitous ATM machine. Deposits won’t need to take place in person anymore; retail bank branches will be overhauled, if not eliminated. Digital transactions will dramatically increase, putting an even greater stress on anti-money-laundering compliance. There’s even uncertainty around PayPal and Zelle: If they provide digital wallet services, who will truly “own” the customer, and where will the customers’ loyalties lie? While there’s no predicting the speed of these changes, there’s no question the world of retail banking will change. Banks have to start preparing today.
Challenger banks are already digital. Will they prevail?
COVID-19 may also accelerate the conflict between traditional and challenger banks.
Over the past few years, hundreds of millions of dollars have been poured into funding countless challenger banks, each with its own unique spin, but at their core, all are somewhat the same. Challengers provide customers with a fully digital experience that is user friendly and easily connects with other fintech products. For example, N26 customers use TransferWise for cross-border FX transactions, not the bank itself. Rewire, a challenger bank for the unbanked, uses partnerships with ATM networks and merchants to provide easy cash withdrawals and deposits.
Challenger banks seem to be built for a crisis like this. They’re fully digital so there’s no bank branches. They are used to not seeing people face-to-face so there’s no real change in the banker/client relationship. So while retail banks are reeling to try and figure out how to move into a different model of user interaction, challenger banks are already there. Traditional banks have tried to “recreate” challenger banks, but with not much success (JP Morgan shut down its millennial- focused banking app only after a year).
On the other hand, things could go very poorly for challengers. If banks are now focusing on digital transformation and start offering a product similar to challenger banks, the Challengers may lose significant market share. Also, it's unclear whether customers are using Challenger banks as their main or secondary accounts, and now that there is economic uncertainty, will customers be willing to put a majority of their savings in a new, digital only, challenger bank?
Most challenger banks don’t have a core, profitable business model that they can fall back on. Many, if not all, don’t even have a banking charter, rather relying on Banking-as-a-Service partners for regulatory licenses. San Francisco-based Varo reports it is well on its way to become the first US neobank (bank that operates exclusively online) with a banking charter. A lack of banking charter means that BaaS gets a cut of transactions or a fee per user, cutting further into gross margins. So while operating in the red may have been acceptable in the pre-COVID-19 world, it may not be so now.
Also, challenger banks raised rounds at very high valuations in the past few years. While many of them claim to have lots of cash in the bank (after rumors Revolut was going under, they remarked that they just raised $500M and have plenty of runway), they may be forced to raise down rounds to keep afloat, which may, in turn, scare customers off.
Many have floated the notion of banks purchasing challenger banks for their digital platform and customer base. However, that may not be so simple, for reasons ranging from price, to customer retention, to how much value a challenger bank would provide a traditional bank at this current time. It remains to be seen if challenger banks can finally compete on the same level as traditional banks, or if traditional banks have the agility and speed to digitize and adapt to what challengers have created already.