Challenger Banks: Niche is the New Black

16-10-2019 | The Blog Series

Have you considered opening an account at a challenger bank or you already have one? 

Challenger banks are changing and reconfiguring the existing banking business model and the technology it is built on. With a customer-centric approach, they create products and services that defy the rule of “one product fits all”. This blog provides a clearer perspective on what a challenger bank is, how they came into existence and the constraints they face. The blog also focuses on how these disruptors make revenue along with a comparison between some of the leaders in the sector. We hope to make it easier for you to decide whether an account at a challenger bank is useful or not.

The disruption of the banking sector and the challenger banks’ existence became possible due to four main drivers:

  • After the 2008 financial crisis, people drastically lost their trust in the banking sector.
  • The rise of millennials and the characteristics of their generation required a change in the status quo. Millennials’ preferences are defined by personalised experiences and products. Unlike the priorities that banks chased in the past (visibility and convenience), this change of demographics required a different focus, one aimed at customer experience (the what and the how).
  • The rise of mobile and the digital era we live in provided an environment where smartphones are integrated into people’s life. This also refers to the inclusion of financial services through digital channels. Consumers require simple, visual and user-friendly experience.
  • The introduction of certain regulatory changes focussed on the consumer’s rights and needs. Such examples include PSD2, OpenBanking and GDPR.

 

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What are challenger banks?

A challenger banks is any company providing banking services in a digital-only approach. These companies do not have physical branches and the interaction with clients happens online through the web, apps, and chatbots. These businesses represent tech innovators whose products solve existing financial issues that the consumers might be facing. Often, this includes new business models that ultimately result in gains for the customers. Challenger banks are usually defined by higher savings rates, low to zero fees, drastically reduced prices and fast and efficient transactions.

Disruptor banks appeared as a reaction to the inflexibility of traditional banks. They usually incorporate cutting edge technology and can be characterised as highly adaptive. In most cases, they operate globally.

 

What are the constraints that challenger banks face?

Some of the challenges that these disruptors face include their advantage as first movers, yet lack of scalability. Challenger banks’ biggest obstacle is the need to monetise their customer base. These companies need to appeal to more customers in order to generate revenue and have higher volumes of data available to personalise their services. As of now, no challenger is breaking even or making profit.

Some of the challenges that these disruptors face include their advantage as fast movers, yet a lack of scalability. Challenger banks’ biggest obstacle is the need to monetise their customer base. These companies need to appeal to more customers in order to generate revenue and have higher volumes of data available to personalise their services. As of now, no challenger is breaking even or making a profit.

Challenger banks’ customers are protected by the Financial Services Compensation Scheme (FSCS), which guarantees reimbursement in case of credit unions going down.

 

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How do challenger banks generate revenue?

There are a few ways in which challenger banks generate revenue.

  • Monthly fees – collected for premium accounts
  • Overdraft services – in exchange for a small fee (from €0.50 to €15 a month)
  • Percentage of revenue on interest accounts through partnerships
  • Ratchet fees
  • Value-added services (e.g. insurance)
  • Automated money – Challenger banks satisfy many of their customers’ needs through different features of their apps, such as notifications for upcoming loan payments, consumer spending habits and savings predictions. Additional revenue can be generated through subscription services based on the huge amounts of personal data their systems could collect.

Currently, in the UK and Western Europe, 1 in 4 people under the age of 37 uses a challenger bank. More than 100,000 people are added to Monzo’s client base each month. Revolut is valued at 1.7 billion at this point in time.

The future of challenger banks is unclear, but the current trend is showing that these disruptors are growing, which indicates a time of change for the banking world.

 

You might also want to read our blog on A Cashless Society: Elusive Dream or Inevitable Future.


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