Technology has changed the way banks operate. This is especially the case now as mobile and digital banking become more attractive in the wake of the COVID-19 coronavirus outbreak. But are global banks capable of leveraging the opportunities – on their own, or will the sector be further transformed by the technological newbies?
"Payment processing is data-rich, which fits perfectly with the technology companies’ business model."
- Jon Arfstrom
As the technology arms race escalates in the banking sector, could alliances with Big Tech give U.S. banks a competitive edge in exploiting their abundant reserves of customer data?
It’s a critical question as mobile banking trends accelerate, with the COVID-19 coronavirus pandemic giving added impetus as bank branches close and the population enters lockdown. Indeed, the top five U.S. banks, led by JPMorgan Chase and Bank of America, spend $35 billion annually on financial technology.
While there is a compelling business case to be made for this strategy, banking could prove to be the sector that disrupts Big Tech’s proven business model of disrupting other industries, despite their unrivaled expertise in leveraging Artificial Intelligence and Big Data.
Regulatory restrictions
A so-called Bank of Google has undeniable attractions for the tech giants. Still, it could be a less inviting proposition for the banking incumbents, given that 65% of profits currently lie in origination and sales. Partnering with tech giants could risk the incumbents becoming low-margin utilities.
However, this remains a moot point as the barriers to entry for Big Tech are currently regulatory rather than commercial or technological. If a Big Tech company wants to take deposits and make loans, the essence of what a bank does, then they would have to apply for a banking license and submit to regulation by the Federal Reserve or the controller of the currency. Despite the Fed’s decision to apply a lighter regulatory touch in banking during the downturn caused by COVID-19, this will not make entry to the market any easier.
While becoming a bank-regulated holding company allows Big Tech entry into financial services, it could exert significant downward pressure on their stock valuations since the best banks trade at multiples in the region of 14 to 15 times forward earnings. Unless that regulatory moat is filled in, which we do not envision, then core banking products will remain effectively off-limits to Big Tech.
Payment data
However, opportunities in the payments processing area could be exploited by Big Tech since a banking license is technically not required. Payment processing is data-rich, which fits perfectly with the technology companies’ business models. They want the data, particularly on consumer finance, rather than commercial lending. They want to see what's happening to consumers, what are they buying every week? Once they can gather that data, they can then sell it to third parties.
There is a divergence in the perception of risk to the consumer from the potential participation of Big Tech in payments processing and data collection. Some, including the government and consumer protection agencies, are concerned that Big Tech could use personal payments data to push individuals towards borrowing more and becoming over-indebted. However, the consumers that already use social media and search applications like Facebook and Google appear unconcerned about such data use and do not feel hurt or exploited.
Payments offer Big Tech the biggest opportunity in the lucrative banking sector, but it’s by no means a done deal. Banks will continue to invest in both back-office and customer-facing technology to optimize profitability and improve margins in the face of the predicted negative real GDP growth stemming from the COVID-19 coronavirus impact on the economy.
Jon Arfstrom
Equity Analyst
Jon brings over 20 years of experience as a research analyst to his coverage of financial services, including banks and consumer finance companies. Prior to joining RBC Capital Markets in 1999, he was a financial services research analyst at US Bancorp Piper Jaffray in Minneapolis. He was also a treasury manager for Graco, Inc. and a CPA for KPMG LLP, specializing in financial services companies.
Gerard Cassidy
Managing Director, Head of U.S. Bank Strategy
Gerard is responsible for providing bank and regional economic research to the firm's clients. Prior to joining our research department in 1988, he was employed by Unum Corporation as a senior bank analyst. He began his professional career with Gulf+Western Industries as a merger and acquisition analyst. Gerard is president and a member of the board of directors of the BancAnalysts Association of Boston, Inc. He is also a former member of the board of directors and secretary of the New York Bank and Financial Analyst's Association. Gerard is the creator of the Texas Ratio, a ratio used by investors to determine whether a bank could be insolvent.
Steven Duong
Equity Analyst
Steven Duong joined RBC Capital Markets research division in 2009 after a prior tenure with RBC’s investment banking team from 2000-2003. Between 2003-2007, Steven worked at S&P Global Market Intelligence (formerly SNL Financial LC) as the head of their online analytics platform and co-head of their Financial Institutions Group research division. Prior to joining RBC research in 2009, Steven was a partner in a real estate brokerage company in Panama. He currently covers the U.S. SMID-cap banking sector at RBC. Steven graduated magna cum laude from Rutgers University with a BA in political science and economics.
Darko Mihelic
CFA - Equity Analyst
Darko rejoined RBC Capital Markets in 2013 to assume coverage of the Canadian banks and life insurance sector. He has covered the Canadian banking industry since 1999 and the Canadian life insurance sector since 2006, and has been ranked highly in various industry surveys. In 2016, he was named a Top Gun analyst for his coverage of the Canadian banking sector and the Canadian life insurance sector in the Brendan Wood International survey. Darko began his career in equity research in 1999 as an associate on our financial services equity research team. From 2002 to 2013, he was an equity analyst at Blackmont Capital, CIBC and Cormark Securities. Darko completed his MBA at SDA Bocconi in Milan and is a CFA charterholder. He is a Managing Director of RBC Capital Markets.
Anke Reingen
Equity Analyst
Anke joined RBC Capital Markets in 2011 as a European banks analyst. She started as a banks analyst in 1999 and since then has covered European banks at Morgan Stanley, Lehman Brothers and Execution Noble. Anke holds a master's in business administration from Cologne University in Germany.
Benjamin Toms
ACA - Equity Analyst
Benjamin has worked at RBC Capital Markets since 2015 and is responsible for the coverage of UK banks (BARC/CBG/CYBG/HSBC/LLOY/MTRO/OSB/PAG/RBS) and large cap Spanish banks (BBVA/SAN). He has previously worked at Barclays, and at Deloitte where he was an accountant in financial services specialising in the valuation of derivatives. Benjamin holds an MA in Law from Oxford University (St Edmund Hall) and is a qualified ACA Chartered Accountant.
