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The fight back: How incumbent banks are responding to the challenger threat

In a departure from earlier experiments, incumbent banks may finally be pursuing a more practical, results-based approach to innovation

High Street Bank Conflict / Shutterstock


After arguably resting on their laurels for many years, incumbent banks are suddenly alerting to the challenger threat.

From JP Morgan's recent wildly successful launch of Chase in the UK to HSBC's acquisition and rebranding of Silicon Valley Bank (SVB) to HSBC Innovation Banking, to Lloyds Banking Group's numerous investments in startups, it’s no longer just a small handful of fintechs that are chasing innovation. 

But though it’s customary to outwardly give innovation a nod in your latest announcements, actually putting out legitimately innovative platforms, features, and tools is another matter, particularly when your pre-existing infrastructure has been built up over the decades, rather than the years.

At a basic level, large incumbent banks simply have much less “green space” in their IT systems than smaller institutions. As a result, at least according to Natasa Kyprianidou, a director at consultancy Publicis Sapient, the process of developing new software and rolling out new services is often simply more expensive for incumbents when compared to smaller companies. 

As a result, Kyprianidou, who has previously held roles at Barclays and Hellenic Bank, points to how in many cases, we’ll be seeing the technical “hard work” of innovation being done by third-party fintechs, rather than the incumbents themselves; with the third parties tech being plugged in as a “layer” on top of the bank’s existing ecosystem.

Chase Card / mundissima / Shutterstock.com

mundissima / Shutterstock.com

Looking outwards for innovation 

One recent example of the above could be NatWest’s partnership with carbon tracking fintech Cogo. In March 2022, the high street staple launched a carbon tracker aimed at business customers in the manufacturing and transportation sectors. The app works by linking with a business customer’s NatWest account and then using Cogo’s tech to attribute an estimated carbon footprint to the transactions based on NatWest’s data.

Janine Hirt, CEO of industry body Innovate Finance predicts that we may see many more partnerships of this type from incumbents aimed at enabling more sustainable financial services, which can help retailers and consumers understand their carbon footprint and their carbon impact, via the use of third-party integrations.

“I think there's a recognition that much of reaching your net zero goals is ultimately down to understanding and synthesizing data,” Hirt explained. “And that is something that fintechs do very, very well.” 

But outsourcing isn’t necessarily the approach that the incumbents have historically gravitated towards. Banks traditionally have wanted to always “build their own” according to Suzanne Homewood, managing director at Moneyhub Decisioning, instead thinking: “we could do that, we'll build it”.

“Whereas I think now they need to accelerate, they need to move quicker,” she explained. “Partnering, engaging can help them move quickly, I think is the way that that the market is gonna go.”

“In fact, that’s the way it already is going,” she added.

Generally, Hirt from Innovate Finance believes we’ll see a lot of partnerships between incumbents and fintechs, where the fintechs are brought in to increase efficiency and reduce costs for the incumbents.

Hirt highlighted the partnerships between JP Morgan, Standard Chartered, and Lloyds with London-based fintech Thought Machine which we’ve seen over the past few years. These serve as an example of a third party being brought in to help spur on technical restructuring, in this case, implementing a cloud-native core banking infrastructure.

Janine Hirt / Innovate Finance

Janine Hirt / Innovate Finance 

The death of the innovation lab

This third-party-led, use case-based approach demonstrates a marked departure from the previous focus on so-called ‘Innovation Labs’, specialist divisions within large banks, which flourished in the years following 2016. Almost all the major Big Four banks at one point launched one of these units, making a lot of noise in the process. 

In practice, these ‘Innovation Labs’ mainly acted as vessels for PR or for performing well on the conference circuit according to Kyprianidou, rather than working towards strong and functional business use cases, terming these as “just random experiments” or cosmetic. 

Many of these divisions were also extremely costly to run as per Natasa, pointing to Loyds Innovation Division which at one point employed hundreds of people without any “discernable monetary benefit.”

Opportunities ahead in SME lending

Despite the best efforts of challenger banks such as Atom Bank, the Big Four still hold strong in the world of mortgage lending. But one area where incumbents have particularly great opportunities may be the world of SME lending. 

Around 55 per cent of all SME lending being done in the UK, roughly £35.5bn, is being done by fintechs, be that challenger specialist banks, or alternative lenders, as per numbers from the British Business Bank. SME lending is a strong example of where fintechs have come in and dominated the market, according to Hirt from Inovate. 

Kyprianidou from Publicis Sapient believes that many of these opportunities in the area of SME lending could come via the introduction of embedded finance-based solutions via partnerships with fintechs, primarily outsourcing the time-consuming and costly process of building separate integrations with numerous third parties.

One area that Kyprianidou thinks could be particularly fruitful for incumbents is providing embedded finance-based services for small businesses on e-commerce platforms such as Amazon or Spotify.

This could take the form of providing short-term cash advances, which could be made with confidence, as the e-commerce platform in question already has a nuanced knowledge of the business, including how it runs, and how much money it makes.

Lloyds Bank / William Barton / Shutterstock.com

William Barton / Shutterstock.com

Converging services for consumers

Many incumbents' attempts at innovation over the next few years will centre around convergence, at least according to Suzanne Homewood from Moneyhub Decisioning, She feels this trend will be driven partly by the cost-of-living crisis and by Customer Duty regulation which is forcing banks to take a more ethical approach to their customers and to guide them away from bad financial decisions.

“Under consumer duty, it is no longer acceptable to just sell an isolated product. Even if you’ve got the best price, you should be taking into account the customer's financial situation as a whole, in recommending a product.”

“If you think about the whole direct-to-consumer marketplace, they have an opportunity and a need to be able to think customer not product.”

Homewood feels it’s fair to say the traditional Big Four banks often have the most data about consumers to draw from, giving them an edge over challengers in some key areas for insight collecting. 

For example, a traditional Big Four bank will be able to see a client's history of mortgage payments, as well as their consumer spending and lending history. A challenger bank such as Wise for example, which doesn’t offer much in the way of ending mortgages, won’t have these golden opportunities for cross-selling. However, she did acknowledge that the introduction of Open Finance, further loosening the regulations around the sharing of financial data, could easily change this. 

Homewood predicts that we’ll eventually see one Big Four “pull ahead” of the market when it comes to converging their consumer-facing services in the very near future.

Though competition in the banking market might seem more cutthroat than ever, today's monetary environment of historically high interest rates may offer the perfect chance for incumbents to scratch up some market share. 

Fintechs in the UK saw their funding plummet by as much as 63 per cent in 2023 compared with 2022, hitting just $4.2bn according to Indian data intelligence firm Tracxn. With money being more expensive than it’s been in recent memory, fintechs currently don’t enjoy the easy speculative funding they once enjoyed, and perhaps investors may be more focused on concrete business plans. 

But ultimately, Hirt points out that if nothing else the rise of fintech has pushed the financials sector as a whole in inducing incumbents towards focusing more on the consumer and on “putting the SU consumer back at the centre of the proposition.”

Though the magic money tree may at some points have given fintechs a distinct advantage when it came to rolling out products and services, fintechs can’t necessarily rely on this any longer — and the ball may be in the incumbent's corner, at least for now.

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