Keeping Up With Online Lenders-Three Ways Banks Can Compete
In the aftermath of the 2008 financial crisis, banks’ appetite for small business and consumer loans vanished as quickly as the crisis hit. With no one for these stakeholders to turn to, online lenders entered the market with a mission to fill the lending gap. A gap so big it’s predicted to be a $400 billion industry in less than five years. Coupled with millennials introducing next generation borrowing behavior, placing a premium on fast, collaborative loans with no regard to brand, alternative financing has introduced a new breed of financial technology that scales at unprecedented speed thanks to new advances that power cost, service and convenience.
"The path toward strengthening digital capabilities is certainly the right one as technology innovation will enable banks to become agile and flexible to compete with the new online lenders"
While banks still have an upper hand in lending, thanks to their existing borrower relationships, a technology injection is inevitable for any traditional lender who wants to do more than just wait for the “startup danger” to pass if they’re interested in staying competitive. How real is the danger? Well, according to Morgan Stanley’s “Can P2P Lending Reinvent Banking?” research, in just four years online lending grew at a 123 percent CAGR, and in another four years, online lending is projected to grow from one to six percent of the entire lending market.
What Does this Mean for Banks?
The use of legacy, on premise, lending infrastructures are not only costly, but also crippling and outdated. So while banks face inefficiencies and high customer acquisition costs caused by laborious lending processes that take days to process and fund, online lenders can offer loans in no more than six clicks with equally good or better underwriting practices. To increase customer satisfaction and grow revenue, banks will either need new friends or a serious technology update. There are three key strategies that banks can deploy to leverage technology and new lending models to compete, become quicker and more cost-efficient, all while reaching more customers and expanding credit:
Partner with an Existing Online Lender
Historically, traditional lenders have been cautious and risk-averse when it comes to innovation. Though many banks aren’t yet willing to move towards an alternative online lending model, traditional lenders can partner with an alternative lender to collaborate and leverage an existing platform to gain more clients. For example, online lender Funding Circle and Royal Bank of Scotland have a partnership to provide financing to thousands of small British businesses. More recently, Citigroup announced that it would use LendingClub’s online platform to lend $150 million to underserved borrowers that its branch network is unable to reach.
Build an Online Lending Platform
Alternatively, banks can build their own online lending platform to compete for market share instead of collaborating with existing vendors. This allows banks to not only provide existing customers with quick access to credit, but also attract new borrowers and businesses. Controlling their own lending platform also enables banks to leverage the latest in cloud-based solutions and not be hampered with the burdens of legacy costs and fixed infrastructure, as well as affords them the opportunity to expand into new markets without opening physical branches. Goldman Sachs, for instance, recently announced its plan to enter the online consumer market by building its own lending platform.
Take the Hybrid Approach
Hybrid lending is a novel approach where banks create their own marketplace lending platform to complement their traditional lending capabilities. For example, if a small business owner was to apply for a $100,000 loan but did not meet the bank’s strict credit criteria, the bank could fund a portion of the loan and submitting the rest of the loan’s funding on their online lending platform where investors would finance it at a slightly higher interest rate.
In this situation, banks are able to expand their credit while maintaining the same risk management and improving customer service and satisfaction.
Surpassing Online lenders?
This is an exciting time for banks. The convergence of new technologies, rise of alternative entrants and evolving consumer behavior, provide endless opportunities for growth and success. Whatever the strategy is to keep up with online lending, banks need to simplify and rebuild their organizations to drive agility, execute effectively and deal with market uncertainty.
The path toward strengthening digital capabilities is certainly the right one as technology innovation will enable banks to become agile and flexible to compete with the new online lenders. With a clear strategy and an advanced technology solution, banks will be able to set the foundation to thrive in an increasingly competitive and technologically sophisticated market, and who knows, maybe even surpass online lenders?