Managing Director & Senior Partner
Although its overall health has improved since the dark days of the financial crisis, today’s retail-banking industry is not yet out of the woods. In developed markets, revenue growth is stagnant (at best), and credit demand is weak—so repricing is a must. The cost of funds is still high, and margins on deposits remain low. In many developed markets, there is an ongoing war for deposits that shows few signs of cooling off as banks try to secure sufficient funding—putting a damper on sales of investment products.
There are further difficulties as well: in many markets, consumer trust in banks remains at its lowest ebb in decades; the cost of risk is still above historic levels; and loan losses have not yet fully abated. Moreover, taking refuge in emerging markets is not a cure-all, because achieving scale abroad is not realistic for most liquidity-starved, capital-constrained Western banks. (See “Navigating a Two-Speed World," below.)
It is common knowledge that in terms of economic growth, different regions of the world are moving at different speeds. Major mature markets are expanding at a far slower pace than emerging markets—now typically referred to as rapidly developing economies (RDEs). What does this two-speed world mean for Western banks trying to gain a foothold in RDEs?
RDE banks have delivered higher total shareholder returns than banks in developed economies, their success driven by fundamentally healthier profitability and valuations. These banks generate sufficient liquidity domestically and have strong capital bases—even by the stringent standards of Basel III. Their price-to-book ratios are greater than 1, and their return on equity is greater than their cost of equity.
However, many RDE banks remain small. With the notable exception of several major Chinese institutions, few have made it into the ranks of the world’s 30 largest banks. Moreover, although RDE banks are consolidating, there is still room for further concentration. The very real challenge is to create cross-border scale. Unfortunately, few, if any, developed-economy banks can participate in this process.
To be sure, banks in the more developed parts of Asia-Pacific, for example, are aggressively targeting regional growth. And with the ongoing rise of the middle class—whose bankability and overall consumption will increase dramatically in the coming years—the opportunity is significant. According to recent estimates, as much as 35 percent of global consumption will come from RDEs by 2020, up from 25 percent today, and this will translate into higher values per customer. Within the same time frame, banking assets in RDEs are expected to more than double. To capture these opportunities, many RDE banks have been refining and even developing new business models targeted at serving customers who are either new to banking or whose sophistication has increased along with their level of affluence. In doing so, some local and regional banks are now able to offer distinctive value-adding propositions that rival those deployed by global banks.
Still, achieving regional growth will not be easy for banks in RDEs. Stronger, more confident governments are raising regulatory barriers, and many operational challenges remain.
Ultimately, although the fundamentals of winning in retail banking remain fairly homogeneous worldwide, the market context of RDEs requires banks to focus more on local levers. Overall, Western banks attempting to gain a sustainable foothold in RDEs have their work cut out for them. Some first movers have pioneered innovative approaches, with SME and consumer banks leading the way.
At the same time, the news is not all bad at the aggregate level. Some industry fundamentals—such as impairments and costs—have improved and are now showing positive trajectories. (See Exhibit 1.) In essence, the “new new normal” in retail banking is not totally different from what we have seen over the past few years—but the bar for success is significantly higher, and the margin for error is much narrower. One overarching fact is that being truly customer-centric is no longer a choice—it’s an imperative. Retail banks must focus on customer satisfaction, offer a fair-value exchange, and execute in a truly integrated multichannel mode. They must develop intelligent analytics, a more streamlined product range, and a much simpler industrialized operating model that is run by engaged and motivated people. These are just a few of the elements of a truly customer-centric bank.
Another key to current industry trends can be found in the shifting roles of products and channels. Distinct differences have evolved between the “old world” of the precrisis era and the “new world” of today. Consider the following dynamics:
Overall, with deposit margins squeezed by low rates (except in some emerging markets), competition increasing, and fees under pressure from regulators, the search for profitability is tilting permanently toward the asset side of the balance sheet. The winners will be those banks that generate sufficient margin on their assets to compete for funding aggressively, that treat their balance sheet as a closed-loop system, and that bring true rigor to risk management.
As for channels, the key will be the ability to provide a truly integrated multichannel offering in a world where banks need to have more high-quality interactions with their customers than ever before.
As for return on equity, the industry’s ROE is hovering around 8 to 11 percent in developed markets, a far cry from precrisis levels of around 19 to 25 percent. We believe that the ROE gap can be bridged through a combination of initiatives—including further cost and impairment measures in concert with reductions in the asset intensity of the P&L—leading to long-term ROE in the 16 to 23 percent range. (See Exhibit 2.)
In a broader sense, we also believe that in order to thrive in the new new-normal retail-banking environment, institutions will need to take concerted action on numerous fronts. We think of these actions as the nine keys to success in retail banking.