Author: Gordon Stanley, Consultant at Leathwaite

Britain’s major banks seem relatively unalarmed (thus far) by their encroaching, digitally focused rivals, the challenger banks. What is clear, however, is that both parties are working hard to cement their place in a fast-changing financial services market.

Competing for customers

Challenger banks are slowly breaking down the obstacles which currently give traditional banks the advantage in serving the customer; but as they get access to new chunks of the market, we are likely to see them expand in these areas considerably.

It was recently announced that challenger banks are to get access to the Faster Payments System meaning they’ll be able to compete against their larger rivals in terms of the speed of the payment services they provide both to businesses and consumers.[i] This is a huge levelling of the scales, as the more nimble and flexible smaller banks will be able to serve the market as quickly, if not more quickly, than traditional banks. 

Challenger banks are also pushing the Competition and Markets Authority to make changes to increase competition in the current account market.[ii] This month, the chief executive of Virgin Money, Jayne-Anne Gadhia, underlined one change they would particularly like to see: “make larger banks pay the going rate of interest on current account balances, as we do.”

The cost of entry for banks into the current account market has historically been high. Pressure is mounting to tackle this in order to allow people access to different providers. There is talk of reducing the notoriously high 8% tax rate on VAT for all financial firms. The fee is nothing to big banks, and might be manageable for medium sized banks but is crippling for the smallest.

As these obstacles are taken away, challenger banks can use their innate advantage in marketing themselves to the younger generation. Their agility means that they can adapt more quickly to market trends such as cutting edge omnichannel payments technology, which appeal to the younger customer. As the needs of this generation grow, so will the challenger banks.

In addition, digital change is costly and slow for traditional banks, due to legacy infrastructure and culture, processes and tighter regulation. The cost of service is also significantly higher than for challenger banks in a low-interest rate environment. Therefore, although the incumbents’ brands are significantly stronger, they are finding it more and more difficult to challenge the challengers.

None the less, big banks are investing in digital solutions at varying levels, through digital teams which are incorporated into the broader business.For example, their investment in fintech companies has created a relationship of reciprocity by providing mentorship programmes and sponsorship in return for essential insight into the latest technological trends. Digital investment has also resulted in ventures such as Barclays’ fast payments service, Pingit.

In addition, although challenger banks have an ever tightening hold on the growth market, large banks still own their traditional market share. Many individuals and businesses still lean on traditional banks for primary and investment banking services. Even younger customers are likely to persist with their traditional bank for their primary banking needs such as mortgages and savings.

Competing for talent

The heightened competition also extends to attracting and retaining specialist talent. Working for a smaller bank is becoming just as promising a career prospect as working for a larger one. Although roles in the big banks usually come with hefty pay packages, employees often have far shorter shelf lives which are riddled with uncertainty because of the constant changes imposed by regulators and less autonomy. Working for challenger banks often means being a bigger fish in a smaller pond and employees are able to make a greater impact during a period of fast change.

Working for challenger banks such as Virgin Money and Aldemore has also become increasingly rewarding for employees who have made a lot of money through deferred stock as the banks have floated. People are being drawn towards working for challenger banks to achieve long-term financial gains. Despite these pull factors, many people may prefer roles in major banks where they can work for a shorter period of time and earn well before moving on.

These push and pull factors have caused a widespread movement of people between large banks and challenger banks, particularly in roles including: customer experience officers; chief information officers; chief security officers; data officers; transformation/ business change officers and proposition officers.

These roles are all actively involved in driving the growth and change agenda in both challenger and traditional banks to ensure they maintain and add to their market share. Proposition and customer experience officers know how to create ways to draw in new customers; data officers are using data-driven insights to target new and existing customers at their specific trigger-points; and transformation/ business change officers are meeting the challenges of a mobile future.

The need for digital transformation in financial services is being aggressively driven  by advances in mobile banking. Today, consumers don’t want to spend their lunch hour queuing in bank branches, they want easy-to-use and quick access to their finances on the move and in their pocket. Emerging challenger brands and large banks alike are hunting for people who can enable them to deliver superior customer journeys.

Levelling out

The fact that no big bank has yet attempted to buy out a challenger bank might suggest they do not currently perceive the threat to be too great. It is more likely that we’ll see mergers and acquisitions between smaller banks or between a challenger bank and a fintech company to gain a competitive advantage. Here, again, challenger banks will be battling against big banks who also realise the commercial value of investing in fintech companies.

Knowingly or not, it would seem that traditional banks and challenger banks are working towards a time where neither will have a greater market share than the other. Major banks are unlikely to lose their monopoly over traditional services. However, as the regulators take further actions to shift power from major banks; challenger banks are well placed to own the growth market.