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One needn’t look far to see that neobanks and other types of digital-only banks — the upstarts in financial services — have altered retail banking.
These numbers tell part of the story:
- Chime: 13.1 million U.S. accountholders
- Current: 4.0 million
- Aspiration: 3.0 million
- Varo: 2.7 million
But there’s more: The five-year projection from 2021 to 2025, shows that the number of U.S. accountholders at neobanks will rise from 29.8 million (11.4% of the population) to 53.7 million (19.9%).
These new players in banking are rising on a tide of consumers’ basic inclination to adopt new technologies (for example, music fans, over time, have veered from needles on vinyl to lasers on discs to files in the cloud) coupled with a pandemic-accelerated shift toward digital and a hyperfocus on customer experiences.
For traditional banks and credit unions, the headwinds are considerable, but there are also opportunities to stand out and to burnish the credentials they have been accumulating for years and to validate the trust they have earned.
To learn more about how neobanks and digital-only banks are competing with traditional financial institutions for consumers’ attention and wallets and how traditional FIs can respond, PaymentsJournal sat with Wesley Suter, Director of Product Solutions at Fiserv, and Sarah Grotta, Director of Debit and Alternative Products Advisory Service at Mercator Advisory Group.
The Neobank and Digital-Only Bank Model: Relentlessly Refining the Customer Experience
It starts with knowing how neobanks arrived and where they are headed.
Suter started by noting that neobanks’ focus on the customer experience “really cracked the code of what consumers are seeking: ease of use and convenience.”
In the neobank world, the customer experience is everything. Neobanks’ mobile-first approach attracted accountholders in droves, as illustrated in the numbers above. What should be more concerning to traditional brick-and-mortar FIs such as legacy banks and credit unions are customers’ attitudes toward neobanks.
Mercator research shows that two-thirds of consumers holding an account at a neobank perceive it to be their primary financial account. Their number one reason for opening a neobank account in the first place is the ease and convenience of the digital user experience.
Those high-end experiences, Suter noted, are “the new form factor of loyalty.”
Neobanks and other digital-only outlets can trace their beginnings to the narrowest of focuses: They were interested in solving a market problem and flowing consumers to their solutions. For SoFi, Suter noted, that was student loans, and from there, the company “manifested into other services.” For Chime, it was about taking on the traditional routes into the wide spectrum of financial services, with a hyperfocus — that word again — on a strong digital experience.
In some ways, however, the neobank model is showing cracks that have emerged over time. Among them:
- Maturing products
- Greater regulatory scrutiny
- Scaling issues as neobanks grow, including outages that affect account access and sometimes access to funds themselves
- The rigors of shifting toward profitability
Such factors can cause a hesitation in consumers to fully commit to these new accounts. In fact, more than 70% of consumers who have digital-only accounts also retain a relationship with a traditional FI.
Herein lies opportunity. But it must be joined with an understanding of how and why consumers organically reach for new solutions, how that natural inclination underwent an acceleration in recent years, and how traditional FIs can take cues from the upstarts while at the same time leaning hard on what they are already good at providing.
How Market Presence Grows
Suter used a generational example to show how consumers have progressed to a high degree of comfort with fully digital interactions. He cited his Depression-era grandparents, who kept cash around the house, having seen how easily it was lost otherwise. “That was their perspective,” he said. Suter then contrasted that mindset with his own, describing himself as midcareer and noting that he did not experience online banking access until his mid-20s.
Next, Suter pivoted to his children: “They’re fully immersed digitally.” His kids still mow lawns and shovel snow, but they are getting paid via Venmo and Zelle.
Neobanks are “leaning into that comfort zone” with digital experiences and the convenience they engender.
And convenience equals loyalty, in the most basic equation.
COVID-19 as an “Accelerant”
Though it is clear that changing technology and the market solutions brought to bear by harnessing it were inevitable, with the March 2020 declaration of COVID-19 as a pandemic by the World Health Organization, consumers’ adoption of fully digital experiences went into hyperdrive, something Suter called an “accelerant.”
He described this as being “forcibly reconditioned to reevaluate all aspects of their lives.”
The impacts on financial institutions were immediate and obvious. Customers who preferred banking in-branch “had to figure something else out,” as branches closed and customers were rerouted to call centers and online and mobile log-ins. The adoption of neobanks rose, as consumers needed to be able to access their money and move it without personal interaction. The game was changed.
Financial institutions were not alone in having to adapt. For example:
- Education shifted from in-classroom sessions to at-home learning.
- Doctors treated patients via videoconferencing.
- Physical stores that remained open dissuaded cash — digital wallet use rose and touchless terminals took root.
“All of these things were natively happening,” Suter said, “but the accelerant was the impact COVID-19 had.”
Such an environment made innovative players in the banking space naturally attractive to consumers already leading digital lives. “Our lives are fully immersed,” Sutter said. “Everything is on. We have an instant link to the rest of the world.” These connections pervade payments, entertainment, and consumers’ work lives.
Naturally, consumers wondered why their banking experiences could not be as easy and immersive as their other digital experiences.
Again, this is an opportunity not just for the upstarts trying to claim turf and shares of consumers’ wallets but also for the traditional FIs that have been there straight along.
Existential Risk and Bright, Shining Opportunity for Digital-Only Banks
For traditional FIs such as card issuers and banks and credit unions, the importance of the payment relationship is paramount. “That’s really the gateway to the other products an institution supplies,” Suter noted.
That puts the focus squarely on debit cards for banks and credit unions. Those ubiquitous cards, employed with the frequency that consumers once spread around with cash, are used more than anything else in a bank customer’s wallet. The potential loss of those transactions is the nightmare scenario.
“Ultimately,” Suter stated, “if you lose that payment relationship, you’re at risk of losing the overall relationship.”
The prescription is that banks and credit unions should:
- Take the time to assess where and how customers are making payments now.
- Understand what is coming through Automated Clearing House (ACH) systems.
- Know what payments are hitting customers’ bank accounts.
- Prioritize use cases.
- Decide where to start in providing meaningful digital experiences.
It’s Not Just Digital
Neobanks receive rightful praise for the way they’ve leveraged their insistent focus on customer experience and gained a share of consumers’ financial lives. Suter stated that for traditional FIs, the proper response is NOT to emulate the digital-only model, but to refine digital experiences upon a foundation of trust and reputation that the upstarts can’t match.
“Lean into how you as a traditional institution win today,” he noted. “You have worked to build this affinity of your brand. You provide a high-touch, personal service excellence.”
Key questions for leadership at traditional FIs to consider in their digital offerings:
- Can consumers easily open and use accounts?
- Are there robust self-service options in digital and online banking?
- Is it easy for customers to manage their financial lives at moments when they need to?
Recall the journey of the music lovers. CDs and eventually digital files crowded in, but vinyl never went away. There is an experience there that can’t be matched. Similarly, remember the 70% of neobank accountholders who have not let go of their traditional bank. They’re valuing something in that relationship: trust.
Trust is gained over the long haul, and it is the essential building block of the future.
