The Tale of the Digital Banks

It’s been more than 15 years since the Internet shook the business world and predictions abounded that Internet-only banks would eat traditional banks for lunch. Taking stock on these predictions, it’s clear that the impact of Internet-only banks has been less dramatic than anyone would have predicted.

In recent years, the trade press and industry conferences have buzzed with admiration for digital darlings such as Simple, Moven, GoBank and BankMobile. Pundits have celebrated these new players’ slick designs and future disruption potential. Yet while the demos and screen shots at events like Finovate have provided fascinating fodder regarding the future of digital banking, the FACTS show that these buzz-worthy players have had infinitesimal impact on market share.

Gonzo readers, let’s look at the facts. Let’s take a quick tour of the major digital banking players that have had an impact in our industry and what this means moving forward. Here’s the bottom line:

In the past six years (March 2009 to March 2015), the top 10 Internet banks have grown an impressive $175 billion in new deposits. Think about this. The 10 players without legacy cost structures have grown to the equivalent of the 18^th largest bank in the country in only six years. Here’s the breakdown of these 10 banks in order of deposit growth:

	Deposits ($000): March 2009	Deposits ($000): March 2015	6-Year Growth ($000)
Ally Bank	$23,212,768	$60,709,382	$37,496,614
USAA	31,334,006	62,995,318	31,661,312
Capital One*	29,565,607	54,374,989	24,809,382
American Express Bank	9,350,806	34,512,381	25,161,575
Discover	27,298,902	48,595,892	21,296,990
EverBank**	7,051,933	21,549,351	14,497,418
CIT	3,025,834	16,806,700	13,780,866
Nationwide	1,904,333	5,124,068	3,219,735
Bancorp Bank (Simple/PayPal et al)	1,495,558	4,499,959	3,004,401
Green Dot Bank (Go Bank)	28,553	725,719	697,166
Total Top 10 Digital Banks	134,268,300	309,893,759	175,625,459
*Capital One figures are for Capital One USA direct bank and not the regional bank components. **EverBank figures include acquisition of Bank of Florida deposits of $1.5 billion in 2010.

• As Gonzo readers can see from the chart above, Ally Bank has knocked it out of the park with deposit growth, more than doubling its size in six years. The strategy to put a consumer-friendly face on the bailed-out GMAC is working.
• Military affinity powerhouse USAA was not far behind with nearly $32 billion of deposit growth in the same timeframe – an amazing doubling of total deposits with stronger checking and relationship revenue than Ally captures.
• The major card-based direct banks – American Express, Capital One and Discover – have all done very well. Capital One has not stopped growing since acquiring ING Direct to add to its own direct banking operations. The quiet $25 billion of deposit growth from American Express bank is especially impressive.
• Niche players Everbank and CIT use Internet deposits as cheap funding for commercial finance and lending activities. Their growth shows how direct banking is a perfect fit for a company that is asset hungry.
• Interestingly, the Bancorp Bank, which private-labels its charter for players such as Simple and PayPal, has seen solid but not breakout growth. Additionally, Green Dot Bank, which powers Walmart’s GoBank, has grown less than $700 million in the past six years – hardly an industry revolution.

There is clearly some fun creative activity going on at digital banks, but let’s put the growth of these top digital banks into perspective:

• While these major Internet players have grown $175 billion in deposits in the past six years, the banking industry overall has grown $2.85 trillion in deposits, meaning these major digital players have garnered approximately 6% of deposit growth in the past six years. Again, this is impressive performance from these players, but it’s not the equivalent of Netflix taking down Blockbuster or Amazon taking down book stores.
• The credit union industry has grown deposits $260 billion in the same timeframe, jumping from $724 billion to $984 billion. The majority of this growth has come from larger credit unions over $500 million in assets.
• But here’s the real clincher: in the same period that the Top 10 Internet only banks grew deposits by $175 billion, the three major legacy retail powerhouses – Chase, Wells and Bank of America – grew deposits by $1.27 trillion. Holy cow!

So here’s a quick summary of growth since the great recession:

	6-Year Deposit Growth ($000)
Top 3 U.S. Retail Banks	$1,271,189,782
All Other Banks	1,406,184,759
Credit Union Industry	259,952,180
Top 10 Internet Banks	175,625,459
Total Bank and Credit Union Growth	3,112,952,180

The key takeaway for GonzoBankers is that digital top disrupters are making their strategies work, and hats should go off to them. However, they are not the only players that have put on their game faces and grown the business. The national powerhouses are proving that the “Occupy Wall Street” mood from several years back did not stop these national brands from scaling, and it’s clear that players like Chase, Wells and Bank of America are scaling their digital customer base very effectively. Mid-size and regional banks have also grown deposits solidly, as has the credit union industry. Both have used street fighting tactics and “good-enough” digital banking strategies to gain local market share. Competition in banking is still very multi-faceted, and the book and music industry analogies are just not completely relevant.

What’s Next?

While new digital disrupters are helping banks rethink the customer experience and how they will add value in the future, they have not done enough damage where large banks and other traditional players are feeling the pain. At the same time, no bank or credit union should feel safe from the potential damage that digital players can do to them in the future.

Here’s why. It’s obvious that one factor that has dampened the impact of digital banks has been our bizarre industry rate environment. As the chart below dramatically illustrates, the past six years have been a ride along the trough of near-zero fed funds rates. It has been difficult for digital banks to take advantage of their lower cost models when differences in interest rates are less dramatic to gain consumers’ attention.

When rates finally rise, it could be a whole different ball game. Smart phones will be in more than 75% of all U.S. adult hands, and downloading another digital banking app to grab a better rate on a money market account will be as easy as ordering with Amazon OneClick or playing a new version of Candy Crush. When that time comes, all traditional players may be surprised that their bountiful deposit liquidity is seeping out in an alarming way. Whatever anyone says at industry conferences, this will not be primarily a battle of customer experience; it will be a hard-nosed rate war. To date, nice personal financial management tools, spending reminders and cool navigation have not disrupted bank market share. In the future, when 100,000 financial institution branches become more and more empty space, digital banks will proliferate and help usher in a new period of deposit rate wars. These competitors will use a more streamlined cost structure versus fancy spending pie charts to make a meaningful dent in market share.

So, GonzoBankers, we can feel good that we have not been “Amazoned” or “Netflixed” by digital banks, but it’s healthy to remember that digital innovation will someday rear its head in a different rate environment, and these disrupters will make us seriously question the cost structure we utilize to operate a simple business that gathers deposits, facilitates payments and lends out funds. It’s time for us to seriously rethink delivery cost structures before the market share numbers look different.

-spw

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