Every week, it seems that there is a new entrant to the banking sector claiming to be ‘disruptive’. However, is this really the case? Big banks do not appear to be heading anywhere. New research from PricewaterhouseCoopers (PwC) states that they well might. Patrick Brusnahan reports
Many experts have looked at the financial sector in its current state and decided that while banks are under threat, there is still time to move the ship away from the iceberg.
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On this point, the report asks: “Have [banks] done this? So far, not really.”
Bank inertia
While the report, entitled The Future Shape of Banking in Europe, gives credit to banks for progress on fronts such as regulation, legacy remediation, trust, customer service, and operational innovation, it claims that this has not been enough.
In the midst of a ‘crisis in European banking’, the sector has consistently missed its performance hurdle rates (meaning their average return on equity was less than their average cost of equity) by some way.
While some underpeformance can be attributed to one-off asset write-downs, fines restructuring charges, and the like, net economic spreads have stuck at around – 6% for the past two years.
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By GlobalDataThe report posits that one reason for this is that Europe is overbanked. Europe has 130 large banks (over €30bn in assets) working in a €15.3trn marketplace. That equals one bank per €118bn of GDP. In contrast, there is one large bank per €302bn in the US, one per €214bn in Canada and one per €144bn in Australia.
As a result, cost-efficiency in the European market is not as high as in others. Cost-to-income is an average of 80%, compared to the global average of 65%.
The report states: “The bottom line is that there are too many banks in Europe, doing too much, in a structurally unfavourable market environment.”
The vigour of the challenger
With all of this in mind, surely the market should not be encouraging new entrants to stake a claim.
On the contrary, there is a large amount of innovation and investment interest in the challenger sector. This interest is from new banking names to technology driven start-ups to existing firms encroaching on banking and payments.
This is growing at an alarming rate. Funding of fintech start-ups more than doubled in 2015, hitting $12.2bn in 2015 from $5.6bn a year before. Rather than sticking to their usual home territories of Silicon Valley and London’s Canary Wharf, fintech firms are expanding to wherever they see opportunity. Asia-Pacific is now one of the fastest growing regions for fintech, astoundingly quadrupling their fintech investment in the last year.
PwC believe that the current situation will lead to one of three scenarios:
- The trend of multi-paced transformation continues: banks gradually adapt and consolidate, but not fast enough to prevent challengers from taking a chunk (the report states possibly 20%) of the market permanently;
- The trend might quicken and reach a tipping point. This means that the challengers become the incumbent and the current incumbents fade away or, at best, are reduced to a utility role. In this scenario, a new banking crisis and more public intervention is possible, or
- A third scenario, one that doesn’t accept the opinion that incumbents and challengers need to be locked in permanent combat, is that a new ‘symbiotic’ relationship is formed. A new banking system will be formed where ‘incumbent’ and ‘challenger’ are redundant terms. This would lead the market to address collectively customer issues and contemporary challenges such as financial exclusion, under-funding of lifetime financial security, and under-investment in new infrastructure and productive capacity. A rather optimistic scenario.
Miles Kennedy, financial service partner at PwC and the report’s co-author, told RBI: “The third of our possible scenarios is the most likely and the most positive of the three. It is not just wishful thinking; there is evidence to suggest that it is already underway. The combination of Brexit, ongoing economic weakness and the challenges faced by incumbents is likely to be a disrupter that only quickens the pace of change.”
