For the past decade, new fintech providers have focused on providing an enhanced consumer experience around a rather narrow set of financial products and services. This has impacted traditional banking organizational planning, innovation and even investments in technology.
As the banking and fintech industries begin to merge through consolidation and collaboration, the focus will move beyond simply providing better payment, lending, money transfer and digital engagement experiences, extending to the entire financial services ecosystem according to a report from McKinsey. These changes will be supported by new regulations, demands from increasingly digital consumers, and a new “platformification” perspective as introduced by Ron Shevlin.
According to McKinsey, there are seven critical aspects of the new financial services environment that must be understood by both traditional and new financial services providers.
1. Expanded Scope
Moving well beyond payments, lending, and P2P transfers, fintech offerings now reach more than 30 areas throughout the entire banking value chain according to the report. Offerings now include all areas of financial services including the following:
- Retail (money management, P2P lending, digital lending)
- Wealth Management (robo-advising, crowdfunding, social investing)
- Insurance (IoT and connected devices, telematics, digital prevention)
- Capital Markets (collateral management, trade analytics)
- Small- and midsize enterprises (digital cash management, P2P corporate lending and investment)
- Payments (mobile payments, mobile POS devices, payment processing)
The above expansion does not even include the extensive expansion being realized in both operations and infrastructure where some of the most dramatic innovation is occurring. In addition to advancements in blockchain and open APIs,much is being done with advanced analytics, artificial intelligence and cybersecurity.
It is noted that fintech firms are even providing advanced advisory and support services. An example is Social Finance (SoFi), which has gone beyond offering just lending products to students and young professionals, expanding to provide career coaching, high touch customer service and networking events.
2. Increased Diversification
“The fintech industry is also becoming more diversified, with a wide variety of business models seen across geographies, segments, and technologies,” states the report. This includes venture capital funded start-ups that address a specific consumer need (Stripe), large tech firms expanding into financial services (Alibaba/Alipay), and established fintech firms expanding offerings (PayPal).
There are also dozens of examples of existing financial services firms creating their own fintech unit. This includes divisions to provide new services as well as completely newly branded banking entities.
“With no signs of the fintech industry’s growth abating, its reach is likely to broaden quickly to embrace even newer technologies and offerings, blurring the boundaries now delineating financial services,” the report’s authors said.
3. Improved Collaboration
The benefits of collaboration between banking and fintech providers has been thoroughly explored by The Financial Brand. While fintech firms do not have the burden of dated infrastructure and have the benefits of innovation agility and focus, they usually lack an understanding of regulations and have difficulty achieving scale. Alternatively, legacy banking organizations have the benefits of trust, an established customer base, massive reservoirs of data, but usually lack digital expertise.
Examples of such partnerships are widespread. For example, New York–based Moven and Canada’s TD Bank have partnered to integrate Moven’s mobile financial-management with TD’s Internet-banking platform in Canada. Similarly, BBVA has funded and partnered with a number of fintech providers to expand service offerings.
4. Increased Consolidation
There is a significant amount of overlap within the fintech space, with multiple players vying for a foothold and/or expansion in the payments, lending, funds transfer and consumer experience market. The crowded marketplace and need to garner VC investment will most likely lead to a period of consolidation, with larger players turning to mergers and acquisitions to satisfy their expansion goals, states the McKinsey research.
Legacy banking organizations may also identify acquisition targets to fill in digital delivery gaps within their organizations. This trend may become more important to fintech start-ups as well given that fintech VC funding activity has slowed.
5. Normalized Valuations
“Valuations of fintech firms are normalizing as investors become more cautious and start favoring companies with proven track records,” states the report. McKinsey examined 44 fintech firms with valuations of more than $1 billion, and found that valuation growth has slowed considerably.
“Between 2014 and 2015, valuations for these companies grew on average by 77%, and then slowed to 9% from 2015 to 2016,” the report states. In the United States, where more than half the companies in the study were based, the report found the drop in valuations to be even more dramatic. While valuations for large U.S. fintech firms grew on average by 54% from 2014 to 2015, they actually dropped by 7% from 2015 to 2016.
There has also been a lower number of newly launched firms compared to very active years of 2012-14. P2P and marketplace lending activity has also suffered somewhat from a crisis of confidence owing to well publicized issues at the US market leader Lending Club.
6. Shifting Regulations
With growth of the fintech industry, and the relationship with legacy banking organizations changing, regulations have needed to evolve quickly to keep pace. “In many markets, regulators are playing a more proactive role in overseeing the industry, often encouraging its development, for instance by following a sandbox – or test and learn – approach that allows fintech firms to experiment without impacting the entire financial system,” the report said.
It is still unclear how regulators will balance the need for limiting risks with the desire to encourage innovation. It is clear, however, that the role of government regulations will increase in the foreseeable future, impacting partnerships, investments and innovation in the banking industry regionally and worldwide.
“The very concept of what comprises fintech will shift. This new fintech era is being shaped by changes in market conditions, new regulations, and shifts in consumer demands and behaviors. As a result, the industry, generally, is becoming more cautious, even as it becomes more diverse across technologies and products.”
7. Emerging Ecosystems
As fintech and traditional bank offerings have become more interconnected, new ecosystems will develop that span multiple industries, predicts the McKinsey report. As outlined in the article regarding platformification, fintech firms could become part of a much broader digital network in the future.
These ecosystems may extend far beyond traditional financial services as we know it today. According to McKinsey, “Ecosystems will likely develop to follow customer needs, rather than conform to traditional industry lines. Leaders in these ecosystems will need strong data-analytic capabilities to develop useful insights from the torrent of customer information available, and they will likely use fintech firms and others to develop the system and extract maximum value.”
The underlying capability in all of these ecosystems will be the ability to capture and analyze consumer data. Advanced analytics and machine learning will enable greater personalization as well as predictive capabilities around needs. In addition to data analytics, these leaders will also need expertise in cybersecurity to credibly safeguard the “huge amounts of potentially sensitive client data” available in the system, according to the report.
The future can be bright for both fintech firms and legacy financial firms that embrace the potential of a greatly expanded definition of banking. Leveraging new technology and advanced analytics, the potential for a bank or financial technology firm to be at the epicenter of a consumer’s digital ecosystem is not just possible, it is probable.
Understanding and taking advantage of the trends described above is the first step to surviving in a digital marketplace that combines financial services with a consumer’s everyday life, making banking as we know it today a supporting function to digital commerce.