Open Banking Is as Much Mentality as a Technology

By Rahm McDaniel

It’s 2018, and according to research from Statista, nine out of 10 bankers want to collaborate with fintech companies. This is a titanic shift from even five years ago, when similar research showed that banks almost unanimously viewed fintech firms as yet more competition in an already-crowded, often-frustrating race to win new customers.

Meanwhile, a decade after the financial crisis, banks continue to deal with challenging new regulatory requirements. But the less-heralded effect of the crisis was the opportunity it created for investors, primarily in private equity, to fund innovation in financial services by investing in and relying on nonbank companies to start driving meaningful change in consumer finance.

A lot has happened since then.

The advent of “mobile everything” removed the brick-and-mortar barriers to entry. The pace of investment in fintech companies continues to grow year over year, and every year we see more of these companies’ stories unfold in the market.

So what have we learned? While nimble, flashy, digital-only fintech companies have been industry darlings for the last decade (much to the chagrin of even the most progressive bankers), they’re starting to hit a wall. They aren’t banks, and they can’t do some key things banks can.

Perhaps unsurprisingly, it’s the same competitive advantage that banks have always had against newcomers: For a financial organization to grow its product portfolio, expand customer relationships and crack into the profitable side of banking, they have to maintain (or tap into) the regulatory and compliance knowledge, capability and infrastructure that only banks possess.

On the other hand, fintech companies have shown their focus on mobile, user experience and data-driven products can achieve customer growth that outpaces that of even the largest banks.

These complementary strengths and weaknesses have created a market for partnership between traditional banks and these creative new entrants. It’s an exciting time to be a bank. Not only are banks finally starting to feel regulatory and economic relief, but these fintech firms—once thought of as pure competition—are creating all-new opportunities for bank growth outside of their core retail or commercial business.

Open banking has set the stage for these partnerships. Open API technologies are making it easier for fintech companies to build products that have all the trappings of a disruptive new product or service but are also bank-compliant. Yet the real key to these partnerships is much larger than technology: They require an open mind and a willingness to part with the status quo to allow new kinds of financial experiences for new categories of account holders.

To date, we’ve seen these partnerships take a few different shapes, each with a different level of involvement, and each with unique benefits.

  1. Direct Partnership

Direct partnership between banks and fintech firms has started to find a major foothold, thanks in large part to new, “open” banking technologies that meet the regulatory needs of partner banks while giving user experience-focused fintech companies the flexibility they need to build modern and intuitive front-end products. In this model, strategic banks may open and maintain deposit accounts or issue debit cards on behalf of their fintech partners, giving the fintech depository scale, FDIC insurance and compliance, while allowing the bank to benefit from the deposits it holds on the fintech company’s behalf.

Although establishing these programs can be time-consuming and resource-intensive, it can be a great way for banks to grow deposits and interchange at relatively low cost, and without the marketing challenge of directly acquiring new customers.

It’s not an entirely new model. Nonbanks have worked with banks for years to provide prepaid cards and other close-to-complete deposit and spending products. But the appetite on both sides has grown, as has the technological capability to facilitate these partnerships. Banks that are successful here are viewing this as a hybrid form of commercial banking, because they recognize that the growth of nonbank institutions delivering financial products is a market they can serve as a utility.

  1. Affiliate Marketing

A new take on a classic partnership model, banks have begun to partner with fintech providers to offer fintech products or services to their customers that the bank may not be able to—or care to—offer themselves.

In this model, fintech companies may partner with a bevy of banks and use their established customer bases as distribution channels. The beauty here is the low effort level—there typically isn’t a deep technological integration or implementation outside of the strategic placement of ads or the launch of some lightweight marketing programs.

The benefits aren’t as robust as in direct partnership; usually there’s what amounts to a referral fee in it for the bank. But there’s an unquestionable symbiosis at play, and it’s only a matter of time before the reverse model—in which a fintech company markets a traditional bank’s products through its own apps and channels—becomes more widespread as well.

  1. Direct Lending and Investment

As the uncertainty about fintech firms and the threat they might pose to banks evaporates, opportunistic banks have begun to back some of their favorite fintech companies through direct investment or a direct commercial banking relationship. Silicon Valley Bank, for example, is well-known for supporting fintech startups—particularly in the Bay Area—with notable successes such as BlueVine, a business funding platform.

This partnership model is a direct result of banks realizing that the “bank versus fintech” dilemma is not a zero-sum game. Banks can benefit from the growth of fintech clients or investments, and fintechs love the capital and regulatory advantages of working with a bank.

While this model may not be viable for every bank, it’s certainly not just for the megabanks either—most of which are fully active in fintech investing these days. There were 1,128 fintech funding deals in 2017, so it could be that direct lending or investment to a fintech company in your neighborhood isn’t as far out as you may think.

Whatever the model, there’s no question that the proliferation of direct-to-consumer fintech represents more of an opportunity than a threat—at least for those banks progressive and open-minded enough to seize it.

As vice president of strategic solutions for Q2 Open, Rahm McDaniel is passionate about empowering community financial institutions with open banking strategies and products that meet and exceed always-changing customer expectations. His 19 years of high-tech experience includes 12 years in various senior roles at Hewlett-Packard and as the co-founder of Ideagility. He enjoys reading and staying fit, and lives in Austin with his wife and two feisty daughters.

Join Rahm McDaniel and Lincoln Savings Bank’s Mike McCrary they explore open banking’s potential to expand the scope of an FI’s deposit-gathering capability beyond its promotional reach and geographic footprint. By embracing open technology, banks can transform the digital onboarding environment and processes while adopting a more holistic, modern ecommerce approach.

The session will take place at the 2018 ABA Bank Marketing Conference, September 23-25 in Baltimore. Register now.