Why the Future of Financial Services Lie in Extreme Digitization

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Three years into a global COVID-19 pandemic and financial services firms are beginning to face a different market landscape.

The biggest change is customer expectations. After shifting to a more digital lifestyle, retail and business customers want the same level of seamless experience that fintechs, virtual banks, platform players, and SaaS applications offer. It’s clear that many no longer see digital as a channel but the beginning of their relationship and a significant touchpoint.

In Hong Kong, this change is occurring faster. A McKinsey survey last year noted that 93% of Hong Kong consumers use digital banking at least once a month; the Asia Pacific average is 90%. More telling is that adoption is nearly uniform across all age groups and income levels, with two-thirds willing to switch virtual banks if needed.

So, financial services firms have to adapt quickly — or risk becoming irrelevant in a market where customers have alternatives a swipe away. The answer lies with extreme digitization.

Setting the business case

Thanks to health measures, lockdowns, the entry of virtual banks and payment providers, and even the Government Consumer Voucher Scheme, digital banking is now a major focus. But when you peel behind the reasons for its rise in demand, you see it is essentially about seamless customer experience.

Today’s customers do not want the same branch experience or convenient access to banking services with their mobile app; they want something more. They want their financial services firms to know them better and want them to offer the right blend of services. They also expect them to be innovative and, in some cases, leading-edge.

Consumers are not the only ones demanding change. Regulators are too. Major regulators, including Hong Kong Monetary Authority with its Fintech 2025 strategy, are at the forefront to drive open banking and ask their regulated entities to collaborate and innovate faster. They’ve also lowered the barriers for other industry players to enter the financial services industry.

Employees are also joining the digital-first chorus by asking for better digital support. With the pandemic showing companies the value of hybrid working, today’s employees want their employers to do the same — or they’ll leave.

Another reason why financial services firms need extreme digitization is that traditional revenue models are not delivering.

This is where extreme digitization, or end-to-end digitalization of enterprise-wide operations, comes in. It allows financial services firms to quickly respond to market challenges, improve their value proposition by partnering and integrating with adjacent market services in demand, be agile to shifts in regulatory requirements and customer behaviors, and capture new revenue streams through rapid innovation.

The starting point

The extreme digitization journey begins with a robust platform — a massive step for incumbent financial services firms.

Many grew their internal platforms organically and are seldom integrated. Neatly silo-ing every business unit worked well when regulations demanded it. Separate databases also protected data privacy and allowed different teams to focus on maximizing their PnL.

However, today’s customers want their banks to understand their needs better from a single point of view. In addition, traditional revenue models are not working.

Although banks’ average return-on-equity (ROE) improved in 2021 after a dramatic pandemic-driven decline in 2020, it remains lower than pre-financial crisis levels and the industry’s cost-of-equity. Net interest margins (NIM) for the sector have been declining since the 1990s, forcing banks to explore new sources of non-interest income (NII) and take actions to mitigate NIM compression. The price-to-book for the banking industry is about one times book value, compared to about three times for all other sectors.

Meanwhile, large platform companies increasingly incorporate financial services into their value propositions, especially payments. While some ecosystem orchestrators partner to outsource their financial services needs, many are building their financial services businesses.

With a platform model, financial services firms can orchestrate data and offer a 360-degree view of the customer, which is the holy grail for many financial services firms. It also allows them to manage their data better while integrating with other services and industry players to create more personalized journeys for their clients and expand their value proposition.

To unlock the value of platform business models, leading financial services firms are taking a two-pronged approach:

1. They are embedding their capabilities into existing platform orchestrators’ business models and engaging their customers in various ways.
2. They are developing their ecosystems in market segments, leveraging their differentiated capabilities and open banking — safe, secure modular interactions that allow users to share their financial data with trusted third parties.

A successful extreme digitization effort also does not stop at leveraging exponential technologies such as automation, hybrid cloud, and AI but also applying them at scale. It can enable collaboration across internal business units and an ecosystem of external partners using secure platform interactions, ultimately optimizing business and customer values.

Start extreme digitization today

Extreme digitization is not an easy path, but it is necessary if financial services firms want to remain relevant and responsive to shifting customer needs. It also gives them agility and resiliency to drive revenues as they shift and adapt to market changes, and unforeseen black swan events like the pandemic.

This is where IBM’s strength lies. We partner with organizations to help our financial services firms to move from a monolithic core system to a hybrid multi-cloud architecture. The shift in architecture allows them to predict and shape data-driven outcomes, automate at scale for productivity and efficiency, secure all touchpoints all the time, modernize infrastructures and transform with new technology-driven digital business models.

Financial services firms can’t afford to wait; they need to jumpstart their extreme digitization today. With the current pace of digitalization and customer behavioral shifts, they risk being left far behind. And playing catchup or looking for a second-mover advantage is no longer viable.

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Want to learn more? Read the IBM Institute for Business Value full report: 2022 Global Outlook for Banking and Financial Markets.