Research: Convergence of interests in the new financial ecosystsem

Saxo Bank’s Søren Kyhl and Stig Tørnes examine how the electronic financial sector will look in the future in a very detailed research piece

What fintech companies and traditional banks can learn from each other

By Søren Kyhl and Stig Tørnes at Saxo Bank


Fintech has become the buzzword for a group of companies bringing efficiency to financial services with varying underlying degrees of innovation, infrastructure or scale. The prevailing argument for the proponents of fintech has so far been that the industry has the potential to challenge and eventually replace traditional financial services companies.

Fintech firms perceive banks as being burdened by legacy technology and focused on complying with post-crisis regulations rather than meeting the needs of their clients via digitalisation. Banks, on the other hand, argue that fintech companies lack the trust of the end customers due to the fact that they are broadly unregulated; they also claim that fintech companies lack the ability to scale their offering due to use of immature and relatively unproven technology.

The truth is perhaps somewhere in between. In this paper, we outline the areas in which fintech companies and banks retain their competitive advantage, and where their seemingly very different starting positions are likely to converge in the future financial ecosystem. In other words, if fintech is defined as the reinvention of financial services through digitisation, then this new ecosystem cannot be simply the preserve of new fintech startups, but of any bank or financial institution that effectively adapts its business model to the digital age.

Context: regulation, competition and technology

The recent financial crisis has brought about a sway of new regulations which have increased regulatory requirements on banks.

These requirements include not only greater capital buffers to help preserve the stability of banks in times of market stress, but also other requirements such as anti-money-laundering (AML) and know-your-customer (KYC) requirements which have made it more expensive to run a bank. At the same time, regulators have pressed ahead with the agenda of bringing greater competition to the financial services marketplace by lowering the barriers to entry.

One such example is the EU Payment Services Directive (PSD2) which allows third parties to tap into banks’ account and payment information and display and handle the information on their own platforms. Another example is the intervention of the Competition and Markets Authority (CMA) in the UK which has recently recommended the creation of open application programming interfaces (APIs) and data sharing in order to force greater transparency for account holders and to increase competition between the banks.

However, regulation is only part of the challenge. Exponential technological development is also impacting banks’ competitiveness. By taking advantage of the most modern and advanced technologies, fintech companies are able to offer compelling user experiences and address financial needs faster than traditional banks. They are unburdened by legacy IT systems and expensive branch networks, and, equally importantly, they do not need to protect existing businesses.

At the heart of this battle between the old and the new is not only the desire to bring efficiency to financial services but a battle for customers and an estimated profit pool of $4.5trillion.

It is therefore unsurprising that a number of banks are conducting strategic reviews of their businesses to ensure that they protect their market share and remain equally relevant in the financial ecosystem of the future.

The battle between the old and the new: unbundling the value chain

We often hear that fintech companies have the potential to disrupt the banking industry in the same way that Airbnb and Über have already done in the hotel and taxi industry. To understand this possibility, it is important to understand some of the competitive advantages of fintech companies relative to banks.

Until recently, the comprehensive infrastructure which supports traditional banks was viewed as an asset for the banks. However, in the new sharing economy, that asset can turn into a burden and a liability. This is because the infrastructure is based on yesterday’s technology, and therefore it is expensive to maintain and enhance. In the long run, the legacy infrastructure is even likely to become redundant due to the introduction of new and more effective network solutions.

Fintech companies, on the other hand, are able to provide access to the existing banking infrastructure without owning the infrastructure themselves. This is where the accusations that fintech companies are ‘free riding’ on banks’ infrastructure come from and some of those claims are understandably justified from the banks’ perspectives who feel that they are no longer competing on a level playing field.

What makes fintech companies nimble is that they utilise the most modern technology to build intuitive and user friendly interfaces to deliver their services. They have proved better at extracting valuable customer insight from structured and unstructured data (Big Data), which makes the customer experience even more seamless and compelling.

Furthermore, fintech companies do not only tap into a larger pool of relevant data than banks usually do, they are also better at extracting new insight via advanced data analytics. By way of example, fintech companies are able to make faster and more accurate credit assessments for lending than traditional banks; in the world of investments they can create an interface which automates investment advice, etc. Despite these advantages, while fintech companies are well placed to capture the customer interface of many financial services, they will not necessarily be able to replace banks altogether. What will likely happen is that by unbundling existing value chains, they will move traditional banks further down the value chain, and – for banks that do not adapt their business model – threaten their value chain altogether.

The challenge for banks: realise how you best defend your customer interface

The combination of regulatory and technological change together with changes in expectations among the banks’ customers has already impacted the competitive landscape for banks. Banks are no longer only competing against other banks – but also against fintech companies. As we already outlined above, fintech companies which are unburdened by legacy IT systems, expensive branch networks and existing businesses to defend are well placed to benefit from this change.

For banks looking to address this threat to their business and revenues, the challenge is not trivial. First, they need to realise that they can only defend their customer interface by being relevant to their customers. The products and services as such are merely hygiene factors whereas the customer experience will be the key differentiator. In that respect, digitisation is an opportunity to protect and grow their business rather than a threat.

Second, as the value chain becomes unbundled, the costs associated with defending the entire value chain increase significantly. In fact, when banks only allow their customers to use their banking services via their own proprietary platforms and engines, they also miss out on potential scale effects. For example, processing financial transactions on behalf of customers of other banks or fintech companies is in fact an effective way to reduce unit costs. Doing the opposite – defending the entire value chain – leads to increasing costs and therefore fewer resources to support existing businesses and exploit new technologies.

Third, the vast majority of banks have legacy IT systems which were designed decades ago when banking customers were serviced in branches between 9am and 4pm five days a week. These systems rely on hefty batch flows running between opening hours to make sure customer files and accounts are updated and reconciled the following day.

However this fits poorly with today’s banking customers who engage with their bank 24/7 via mobile, tablets, desktop and, to some extent, over the phone. Making these legacy IT systems work in today’s environment is costly, with IT maintenance costs only likely to increase year after year. On top of this, many banks suffer from fragmented IT platforms which have never been properly integrated.

Consequently, a significant part of banks’ IT budget is allocated to maintenance making it difficult to allocate the resources required to keeping up with the fintech companies able to adopt the newest technologies.

There are some banks that have embraced digitisation and been able to allocate enough resources to invest in IT to keep up with fintech companies. However, to succeed, those banks also need to change the mind-set away from waterfall coverage – where they try to be all things to all people – to an environment where they can be more nimble.

The ‘figure it all out first’ approach is time consuming and it only works well in a predictable environment. However, in an unpredictable environment characterised by disruption and exponential technological development, a ‘fail fast’ approach fits much better.

Fintech companies tend to master this approach very well and banks need to adopt this approach too. If they don’t, they will end up spending too many resources on time consuming IT projects and constantly find themselves lagging behind when launching new services or deploying new technologies.

To summarise, when banks attempt to defend their customer interface they are faced with a two dimensional challenge. First of all, the possibility that the entire value chain will be unbundled and this will make it more costly and more demanding for banks to defend the entire value chain within all product lines. Secondly, owning the entire technology stack is in many instances becoming a liability for banks, due to hefty maintenance costs and inflexible platforms which are not geared for the new digital reality.

The winning strategy for banks: finding what they are good at

Despite the challenges they face, banks retain a few significant advantages compared to fintech companies. They already have long lasting relationships with their customers, they are regulated, and they have deep insight into the global financial infrastructure.

The latter is important, because, if you are to provide financial services to customers, you need to understand the existing financial infrastructure to be able to tap into it and/or act as a gateway to it. Therefore, based on customer relationships and insight into the financial infrastructure, by applying the right strategy banks can achieve an advantageous competitive position.

A strategy which allows banks to utilise this competitive advantage is one which is open to partnerships with other banks or fintech companies and thereby includes elements of ‘Banking as a Platform’ (BaaP).

There are many reasons why this strategy could be the winning one for banks. The primary reason is that it becomes less costly for banks to protect their customer interface (i.e. the customer relationship) if they utilise the technology stack or selected product engines from partners who have the size to benefit from scale effects. Further, banks will gain from the specialised skills and competencies from said partners to bring competitive services to their customers.

This strategy has been very successful in other industries, however, so far, within banking and financial services only the likes of Visa and MasterCard have applied it successfully.

One of the reasons behind this lack of adoption is that many banks find it extremely difficult to identify their true core competences. They tend to embrace the entire value chain and view it as core. However, the flip side of this is that it becomes extremely expensive to run the bank and difficult (or impossible) to identify potential partners. Many banks also have a hard time truly identifying which products and services they are really good at and in which areas their customers would be better off receiving that service or product via a sub-provider.

Further, successful execution of this strategy requires an open IT platform which is able to integrate with external platforms. The majority of banking legacy IT systems are far from open and they are simply not geared for integration with the rest of the financial ecosystem.

These challenges aside, this strategy remains the best possible solution for the banks looking to be part of the future financial ecosystem.

Banks need to address their technology challenges for a number of reasons. First, maintaining legacy IT systems that are poorly integrated is costly and the costs of doing so will continue to rise as fintech companies enter new areas of the value chain. Second, by not taking action, banks are also exposing themselves to greater operational risks which are linked to poorly integrated IT systems, increasing the risk of outages and reducing the ability to patch old IT systems based on outdated code language.

Finally, the ability to extract structured and unstructured data and apply advanced data analytics as well as the ability to connect to or integrate with other platforms will require more flexibility and speed than the banks’ legacy platforms usually perform.

That said, replacing the entire technology stack along the entire value chain in all markets can be extremely costly and time consuming. By viewing banking as a platform and deciding on which parts of the technology stack the banks will own themselves and which parts they will outsource and use on a white labelled basis is a cost efficient way of staying relevant to their clients and protecting their revenues.

The successful bank of the future – an open platform

The successful bank of the future should therefore aim to have a ‘modern’ and ‘open’ IT platform which allows it to realise the benefits offered by the massive economies of scale characterising the financial services industry. In our view, it is essential that banks employ a dual partnership strategy:

The first one is to engage directly with customers via the bank’s customer interface as well as attracting flow or business from other partners, e.g. banks or fintech companies, within their core areas.

By doing both, the bank maximises the scale of its proprietary platforms (or engines) to the benefit of the bank itself as well as the partners in the form of lower unit costs and increased competitiveness. When the bank sells its own platform (or engine) as a white label to other banks or fintech companies, the bank has a strong selling proposition because it uses the platform (or engine) itself. The bank has skin in the game.

The second one is to engage in partnerships with other banks/fintech companies within the bank’s non-core areas. It is equally important to utilise other banks’/fintech companies’ services and products outside the bank’s core areas. It is simply too expensive to bring non-core offerings to the market and the bank will have a hard time being competitive due to lack of either competencies, scale or quality in services.

This two-way partnership strategy based on BaaP has the potential to become a win-win situation for the bank who offers its own platform to other partners (as a facilitator) as well as for the partners who utilise the platform on a white labelled basis.

However, as stated earlier, this is easier said than done. Many banks find it extremely difficult to identify their true core competences and the true core parts of the value chain. When banks are unable to make tough decisions, it becomes expensive to run a bank and the customers receive poor quality at a high cost.

BaaP alone is far from being the solution to all of the banks’ challenges. An additional element, which is probably the most challenging part of the strategy, is operational and cultural change. Banks need to be wholly focused on their customers in everything they do. It probably goes without saying that true digitalisation does not only include technology in the strictest sense.

Simplification and rationalisation of internal processes is equally important – not only to benefit from the advantages of modern technologies (speed and flexibility), but, even more importantly, to be able to deliver a coherent customer centric experience across the entire value chain.

Timely and cumbersome internal processes are not only costly – they seriously hurt the customer experience.

Simple processes and flexible platforms are a prerequisite to staying agile. Agility is probably the most important attribute to ensure that banks can be disruptive rather than being disrupted by others. Any bank which claims to be disruptive should continually ask itself ‘how would I do this if I were to start all over’ with the new technologies at hand. However, if the current structures or technologies obstruct the necessary changes, soon the bank will be disrupted by others.

Last but not least, the banks’ willingness and ability to be open and transparent towards their customers is a significant lever for banks to gain back trust. Traditionally, banks have been perceived as lacking in transparency. In our view, this will change. Banks must learn to be more open. Customers expect to be able to follow their credit applications (track and trace) in much more detail. They also want to understand the reasoning behind any decisions made by the bank. In this regard, digitisation will provide the tools to enable banks to rebuild the trust with their customers.


By adopting an open platform strategy, banks can deliver their customers with better, cheaper and more user-friendly services. More specifically, retail customers will experience a more compelling interface or gateway into the financial ecosystem and corporate customers will experience a more seamless integration with their existing enterprise resource planning (ERP) systems. Ultimately, this approach would lead to a true democratisation of the financial ecosystem – whether it is access to advisory services, provision of credit/liquidity, payment infrastructure or trading and investing. For the financial industry, the possibilities resulting from partnering with other banks and fintech companies are equally compelling.

We will see more strategic partnerships and a higher degree of specialisation within specific services, markets or customer segments. Consequently, by tapping into the same banking platform and same financial infrastructure, small franchises – be it small local banks that are close to their customers in the physical world or highly specialised fintech companies that are close to their users in virtual world – will be able to compete on equal terms with the global or regional universal banks.

So far, only few banks have successfully executed on this strategy. However, in our view, the changing dynamics in the financial industry call for a change in the mind-set which sees digitisation as an opportunity rather than a threat. And as with everything else, first movers will likely benefit the most in this new environment.

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