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Home Challanger banks Challenger Banks: Disrupting the Status Quo in Retail Banking

Challenger Banks: Disrupting the Status Quo in Retail Banking

Challenger banks have disrupted the retail banking sector since their emergence over a decade ago. They use the latest technology, are unencumbered by legacy IT systems, and are more operationally efficient.

Although the personal current market is still concentrated on a few big banks, challenger banks are consistently beating their long-established rivals in the popularity stakes, and even the more mediocre new entrants are creating meaningful customer bases.

In the UK, the regulator has authorized around 30 new banks since 2013, and the future looks promising for the challengers if they stick to their guns.

In this blog, we will explore the state of retail banking, the different types of challenger banks, and the attractions of digital challenger banks.

Retail banking in a state of flux

The Financial Conduct Authority’s (FCA’s) Strategic Review of Retail Banking Business Models – Final Report last year explored how banks of all types are transforming their businesses to meet the challenges of digitalization, ring-fencing, changing customer expectations, and the need to cut costs.

It looked at the “big four banks” (Lloyds Banking Group, Barclays, HSBC, and NatWest), building societies, and challenger banks.

The Types of Challenger Banks

Challenger banks are smaller, nimbler, structurally, and operationally more efficient than traditional banks. The FCA split challenger banks into four categories:

  • Scale challengers – Santander, Nationwide Building Society, Virgin Money UK, and TSB.
  • Mid-tier challengers – Metro, Co-operative, Tesco, and Sainsbury’s.
  • Digital challengers – such as Starling and Monzo.
  • Non-personal current account (PCA) providers – specialist lenders such as Aldermore, Shawbrook, and Close Brothers.

Digital Challenger Banks

Digital challenger banks are also known as online-only banks, internet-only banks, mobile banks, virtual banks, or neo banks (“newbanks,” neo being derived from the Greek word neos) – that have attracted the most attention.

According to Which?, the UK consumer association, the attraction of digital challengers is their “modern design, personalization, low fees and snappy customer service.”

In its latest “Best and Worst Banks” annual survey digital banks Starling and Zopa came top for current accounts and savings respectively. Both earned five stars for every aspect of their services and were named “Which? Recommended Providers.”

The Future of Challenger Banks

The largest banks still control a vast share of the market, and the personal current market is still concentrated in a few big banks. However, scale and mid-tier challengers have provided “additional choice and value” for consumers, and digital challengers have rapidly gained share in the UK’s PCA and small business current account markets.

Although PCAs held with digital challengers tend to have relatively lower balances, transaction volumes, and overdraft usage, which leads to lower funding benefits and fee income, competition and innovation from digital challengers have forced larger banks to up their game, which has improved service quality for many customers.

Final Thoughts

The challenger bank trend has been particularly strong in the UK, but it is also happening in Europe, North America, and other regions. Dealroom, an Amsterdam-based provider of global data on start-ups, provides some useful information on European challenger banks, including brief descriptions of most of them and who the investors are.

The UK is by far the biggest market, with 39 banks and a combined funding of $7.9bn. Germany is second, with 10 banks – including N26 and Vivid – and a combined funding of $1.9bn; and the Nordics region is third with six banks – including Lunar and Holvi – and a combined funding of $545m. 

While the largest banks still control most of the market, the challengers have managed to create meaningful customer bases. Digital challenger banks, in particular, have rapidly gained share in the UK’s personal current account and small business current account markets.

They have attracted customers by offering innovative mobile apps that make banking easier and more convenient. While traditional banks are improving their game in response to competition and innovation from digital challengers, it seems like the future is promising for the challengers if they stick to their guns.

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