The Role of Banks In a Fast Changing World

As intermediators between family offices and investors, we often get asked whether we seek to replace the role of banks.

It’s not an illogical question, given the rise of various Fintech startups which challenge the banks in various business models.

Some examples of well-known challenger companies:
  • Lendingclub: alternative to banks when it comes to student loans and treasury management
  • Transferwise: alternative to banks when it comes to transferring money abroad
  • Betterment, Motif, Wealthfront: alternative to private banks and wealth management
  • Bluevine, eDebex: alternative to factoring services provided by banks
However, it’s still too early to call it game over for the banks.

Firstly and most importantly, banks have the important legal monopoly on the multiplicator effect. This means that banks can borrow more to companies and household than they have on their balance sheets. As Niall Fergusson pointed out in his “the Ascent of Money”, this enables banks to charge far lower interest rates than a loan shark would and still make a profit.  This also has the societal benefit of enabling households and companies to already have today what they could only afford much later, such as a house through a mortgage or enough cash to produce goods prior to their payment through a loan.

It is very important to note that no start-up whatsoever has this multiplicator facility. One may argue that on services such as Lendingclub and Bluevine, individuals and companies with excess cash can borrow this excess cash now directly to qualified borrowers at win-win conditions for both. This is correct and does constitute a challenge to the traditional banking model. Because they can use data and modelling to predict whether a borrower is credit worthy they do not have to operate with the same manpower and physical infrastructure to determine who’s credit worthy and who’s not. However, the old adagium of Lord Rotchild was that creditworthiness does not depend on whether someone can pay you back, but on whether someone will pay you back. This is still to come through the test of time.

Also please take note that banks and governments need each other more than anyone realises. Who after all helps the governments when they spend more than they earn?

Secondly, banks have a history of simply buying their way out of trouble. Never underestimate the capacity of a behemoth with continuous cash flow to buy up challenging companies or to originate them directly.  Banks can throw people and money at problems in a way and for a period no start-up can.

Or to list it up, banks have:
  • unrivalled distribution power (they know you, they can reach you)
  • capacity to handle compliance and regulatory risks
  • well known and still surprisingly trusted brands – the trust factor
  • deep pockets and human ressources
This still makes them formidable contenders in the Fintech space, provided they take the challengers seriously enough to compete with them head on, buy them or to partner up with them. Because, let’s still face it – the succes of contenders such as Betterment, Wealthfront, Vanguard and others proves they’re serious contenders for the private wealth business of banks. Other services which just require intermediation – putting people in contact with each other – can be done effeciently by platforms at a lesser cost than the traditional bank relationship models.

What is the implication for family offices and investors? Everyone has their own concerns and preferences for the banks they work with off course. However, if you want to develop a banking relationship for the long term – or if you want to invest or stay invested in a bank – it pays to scrutinise your banks for two aspects:

1. How good they are at the multiplicator effect – how solid their absolute core business is of transferring short term deposits in long term investments and credit. 2. What their capacity for adapatation is.