Incumbents vs neobanks: Leverage new technology or risk crumbling

Incumbents vs neobanks: Leverage new technology or risk crumbling

Financial institutions are focusing heavily on digital transformation driving innovation, better customer experience and cost reduction as they shift gears from simply meeting regulatory and compliance needs to remain relevant in a digital world.

Finextra spoke to Amit Bhute, SVP & global head of the banking and financial services practice and Soumyendu Kishore Pal, VP and co-head of the capital markets practice at Virtusa about what is driving digital transformation in financial services today.

Bhute says that the rise of digitally native neobanks has showcased a significant gap in the market. “Banking legacy infrastructure that was built between the 1960s and 1980s is crumbling and is now unable to meet the demands of increasingly real-time and data-intensive customer demands.

Banks have realised that sticking to the status quo is no longer enough and simply meeting regulatory demands will not support growth.” Traditional banks must focus their digital transformation strategies on innovation, otherwise new revenue will captured by the digitally savvy neobanks.

Bhute defines the buzzword ‘digital transformation’ as encompassing several components. First, an inside-out view which targets entirely new channels being created such as mobile apps, APIs and chatbots, as well as social media integrations.

Second, the outside-in view considers the developments occurring within banks where digital core transformation is addressing process efficiencies, scalability, cloud migration and AI/ML to remove friction, plug-in revenue leakage and manage risks better.

Understanding the shift

Several factors driving this shift are at play, starting primarily with recognition that the customer’s appetite for innovative services is broadening the market. A recent report by Finextra in association with Virtusa exploring ‘Top Global Banking Technology Trends’ shows that mobile channels are now of prime importance to banks in both personal and SME/corporate markets.

Further, as users move online, 36% of respondents reveal that they are decreasing their number of brick and mortar branches and making those which are already established more digitally streamlined.

To continue relationships with large business clients, being stuck behind the digital eight-ball would place banks at a significant disadvantage. “Large, digitally native organisations (Google or Airbnb for example) have digitally native needs. They expect their banks to be able to meet these needs using the most effective, efficient and reliable technology or they will look elsewhere for services to fulfill their needs,” says Bhute.

Pal explains that meeting regulatory requirements remains a driver of innovation, with complex MiFID and FRTB reporting standards within capital markets often cited as examples whereby digitisation and innovation are essential.”

For example, banks are exploring grid compute infrastructure within the public cloud, to compute calculation intensive Expected Shortfall (ES) or Value at Risk (VaR). “Systems will need to run large computation jobs within a short period of time which can only be scaled elastically through cloud offerings,” Pal says.

Digital transformation has shown clear operational cost reduction. Pal says “institutions are seeking to turn what were historically very employee-heavy areas into entirely machine-led departments. Asia is very much leading the way in the leveraging of certain AI tools to streamline AML and KYC procedures.”

Finextra’s report elaborates this point, noting that the successful deployment of AI tools can greatly reduce the incidence of ‘false positives’ created by sanctions filters, which require human intervention and its associated high cost.

Taking hold of transformation

Banks are looking externally to establish strategic fintech partnerships to collaborate on digital solutions. 70% of respondents to the Finextra report survey state they have at least one (one to four or more) fintech collaborated solutions in production.

For innovation, Pal states that sandboxes are essential because they allow banks to evaluate a variety of new technologies with cloud-based APIs. However, setting up sandboxes within the legacy infrastructure requires banks to go through internal, but onerous IT and security governance processes.

Propositions where “open innovation platforms’ are available, are attractive to banks because they can test solutions in a controlled environment and are not obligated to implement the infrastructure.

Transformation is also being seen in product development and on the pricing front whereby personalised pricing tools can be used to determine an optimised product and price point.
Bhute explains that while blockchain has been used for payments for quite some time, new applications of the technology are gaining steam.

Trade finance and identity solutions are gaining acceptance with five Canadian banks already utilising ID tools through blockchain. The Finextra report also indicates that trade finance is ranked the highest priority for blockchain-based solutions, noting at least five major consortiums (Voltron, Marco Polo, Batavia, and HKTFP) currently developing propositions in this area.

Pal adds that in commercial banking, digital transformation is not a comprehensive strategy in all cases. Banks are not moving at an equal pace, and while the goal is typically to achieve front-to-back transformation, certain institutions lead in the customer facing journeys, while others lead in the back-end which are payments or settlements.

Obstacles to digital

Though the use of technological levers including APIs, AI and blockchain - to name a few - are being widely adopted, not all financial institutions are finding success. Bhute has seen banks invest substantial amounts into their digital transformation strategy only to meet 10-20% of their stated objectives.

“Banks are unsure how to leverage the tech changes available, they need help with visualising and conceptualising the issue. We are approached by firms to advise on incorporating and implementing the best and most relevant tools,” Pal says.

While some institutions have made strides in digital transformation (The Commonwealth Bank of Australia’s cloud migration strategy for instance), others seek external consultation or wait for market trends to settle before embarking on a new strategy.

Pal cites the example of firms intending to migrate collections of information into data lakes which in reality became nothing more than highly underutilised data-swamps. Beyond strategy, banks also face a lack of qualified developers, a lack of standardisation - particularly outside of the UK and Europe, and regulatory concerns regarding the type and approach to storage data safely on the cloud.

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