fintech 2018: ai, blockchain and the cloud · 2017-12-22 · 2017 american banker and ourceedia all...

FinTech 2018: AI, Blockchain And the CloudTechnology spending at banks looks set to climb again in 2018 with budget growth at smaller banks poised to outstrip that at large banks. Also in this report: how banks of all sizes are assessing and implementing next-generation technologies.

FOR RELEASE DECEMBER 2017

ISSUES + ACTIONSAMERICAN BANKER

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FinTech 2018: Where AI, Blockchain and Cloud Computing Fit

In recent years, a set of technologies — blockchain, artificial intelligence (AI) and cloud computing — have gained sophistication and momentum across the financial services sector and many experts agree that each in their own way has the potential to radically change the industry.

Blockchain offers more transparent custody and faster transactional capabilities, while cryptocurrencies continue to see valuations skyrocket. Artificial intelligence is rapidly adapting to a number of roles, automating both back-end processes and client-facing applications; cloud computing is now meshing with AI as it seeks to expand institutions’ big-data processing capabilities.

Yet, for a variety of reasons, the potential in these technologies is being met with a somewhat circumspect approach from financial services executives. To understand where executives see the opportunities and the risks, SourceMedia Research surveyed executives on their overall outlook on technology investments and their interest and activities specifically related to these trending technologies.

The results do not indicate an unwillingness to engage, but rather an unfamiliarity with how to engage purposefully. Cloud computing for instance is a proven technology, but many surveyed institutions are still testing it, having subscribed only to cloud-based data backup and recovery services.

Caution was the most universal response toward investment in any of the aforementioned technologies. Among respondents, regulatory concerns were cited as a chief obstacle.

Take blockchain, for example. For now, no clear “fast-follower” category of banks seems poised to emerge, as only a small minority have moved beyond the “considering

INTRODUCTION



testing” phase of blockchain implementation. And most of that activity, not surprisingly, is occurring among bigger banks which operate businesses (clearing, processing, etc.) where benefits are more readily achievable. A wait-and-see attitude largely prevails elsewhere as bankers assess the risks of using such technologies.

AI applications are seeing greater exploration. Across different usages — customer analytics, fraud detection or risk management — most respondents were either considering engagement, beginning to test applications or had already implemented some AI into their operations. For instance, over 40% of all institutions were considering testing AI in customer analytics.

Instead, budgets continue to be focused on areas like information security, with many firms also pouring considerable resources into compliance-related systems and upgrades of outdated technology.

Agreement on industry perspectives regarding security risks, digital transformation and growth opportunities have only increased as well:

• Data breaches fallout: Across all asset sizes, 47% of respondents said that IT risk was the biggest threat facing them in the coming year, and 77% counted it among the top three threats.

• Automation is key: 44% of all respondents are increasing investment for branches in automated, self-directed service technology.

• Moving to online and mobile: 49% of all respondents list digitalization of products for commercial customers as a top revenue growth opportunity.

• The power of analytics: Considering predictions for their company or the industry, the overall majority of respondents viewed analytics as providing the best near-term revenue growth and operational efficiency.

• The fintech-bank relationship is complicated: Overall, 39% of institutions now say fintechs are competing against them in at least one of their core lines of business; but at least 30% of bankers are now collaborating with fintechs to either access new clients or to drive down operating costs.



ABOUT THIS REPORT

Issues + Actions reports are produced by the editors of American Banker in partnership with SourceMedia Research. The reports draw on proprietary research that probes the activities, experiences and perceptions of C-suite and other senior-level banking professionals.

The reports assess how financial services executives are responding to, and capitalizing on, the fundamental forces that are changing the industry. Each provides exclusive and authoritative analysis and insight on a topic of vital interest to the operation of a banking company. The target readership includes senior executives, line-of-business leaders, marketers and technology providers seeking deeper, more actionable industry perspectives, whether as clients or competitors. The reports are available for purchase singly or by subscription.

This report’s primary narrative was written by Rob Garver. American Banker is the leading resource for commercial banking professionals, supporting a full line of professional content as well as research, data and conferences. American Banker is a SourceMedia brand. Other SourceMedia brands include PaymentsSource, National Mortgage News and Credit Union Journal.

For more information, contact Director of Research Dana Jackson at 212-803-8329 or Customer Service at 800-221-1809.

NOTE Reproduction or electronic forwarding of this product is a violation of federal copyright law. Subscriptions and licenses are available: please call customer service at 800-221-1809 or email [email protected]. SourceMedia, One State Street Plaza, 27th Floor, New York NY 10004.


Figure 1: What are your institution's total assets?

Source: SourceMedia Research, December 2017

33.8%

15.2%

21.2%

29.9%

More than $10 billion

$1 billion to $10 billion

$100 million to less than

$1 billion

Less than $100 million

Figure 2: Which of the following best describes your job title or position?

6.9%

13%

19.9%

26%9.1%

8.2%

9.1%

16.9%Other

Sales/MarketingExecutive

IT/TechnologyManagement

Group Manager, VP

EVP, SVP,Managing Director

Other C-LevelExecutive

President,Chairman, CEO



SPENDING SHIFTSIn 2018, small banks appear intent on closing some of the technology gap that has developed between them and their larger peers. Banks in the range of $100 million to $1 billion of assets will lead the charge in terms of budget growth, with 80% of respondents in that size range saying they expect a tech budget increase in 2018, and a quarter of the group forecasting growth of 15% or more.

Among the largest banks, spending on tech continues to grow, but signs of deceleration persist. The rate of expected growth, down in last year’s survey, continued to fall, with fewer than one in 10 big banks planning increases of 15% or more in tech spending and more than one in 4 expecting tech budgets to remain static or, in a few cases, to decline.

Digging into the data reveals marked differences in how institutions of different sizes plan to channel their technology spending in the coming year.

Digital banking was among the top spending priorities for banks overall, with 52% of respondents acknowledging plans to increase spending in the

Increase by more than 15%

18.1%16.2%

Increase by 11% - 15%

11.3%

13.7%

Increase by 6% - 10%

24%

20.6%

Increase by 1% - 5%

24.5%

26.5%

Stay the same

18.1% 17.6%

Decrease by 1% - 5%

2% 2%

Decrease by more than 5%

2%3.5%

2017

2018

Figure 3: Please estimate the change in your technology spending this year and next?



area. Banks in the $1 billion to $10 billion range were the most committed, with 76% reporting plans to increase spending. Fifty-nine percent of banks surveyed with more than $10 billion noted similar plans, while only a combined 34% of small-to-medium sized banks expect to invest in the area.

Of course, that difference may be a function of the gap in technological advancement between large and small banks. While the larger institutions focus much of their tech investment on improving their customer-facing digital offerings, smaller banks seem to be playing catch-up on some basics.

Fifty-five percent of small banks reported plans to invest in computing infrastructure, including data centers, servers and desktops, and 45% said they would be putting cash into networking infrastructure, such as wireless technology. Only a little more than 1 in 3 banks with $1 billion of assets or more said that they would be increasing spending in those areas.

When it comes to how banks expect to spend money on tech in 2018, the survey identifies some interesting trends. A year ago, more than half of respondents (55%) said that they expected to increase their spending on

Figure 4: Please identify the areas where you expect to increase spending next year

Security

52.9%

Digitalbanking

51.6%

Compliance

44.6%

Dataanalytics

43.3%

Computing Infrastructure

(other than network)

40.1%

Lending platforms

32.5% 32.5%

Core banking

Networking infrastructure

31.8%

Branchtechnology

29.3%

Paymentsoftware/services

28.7%

Mortgage tech

17.2%

38.2%

Mobile security and employee

management



technology related to compliance issues. That number fell to 45% this year, something that may reflect the deregulatory bent of an administration led by President Donald Trump, who had not yet been elected when last year’s survey was conducted.

However, if worries about regulatory costs are claiming a smaller share of tech spending, related concerns about data security are not. The percentage of banks saying they plan to increase spending on information security remained almost exactly the same, at 53%, year-over-year.

Interestingly, expected 2018 spending on mobile, security, and employee management — a critical point of exposure, according to cybersecurity experts — varied considerably by bank asset class. Overall, 38% reported an expected increase in that category. Forty-eight percent of banks in the $1 billion to $10 billion range anticipated increased spending in the area, the most of the asset classes. The lowest share, just a quarter, was reported by banks with less than $100 million.



BANKS & FINTECHS: IT’S COMPLICATEDThe relationship between banks and fintech companies became, if possible, even more complex over the past year, according to respondents. In last year’s survey, 31% of respondents reported that they were competing with fintechs in at least one of their core lines of business. In this year’s survey, that number jumped to 39%.

However, over the same time period, the percentage of bankers who said they view competition from fintechs as one of the top threats to their business in the future decreased. This year, 38% of bank executives in the survey named competition from fintechs as one of their top three concerns — that’s down from 48% just a year ago.

The difference in bankers’ level of worry about competing with fintechs may stem from their increased reliance on those same firms as partners.

Figure 5: Please identify the top three items on this list with respect to their potential for cost savings at your business

Analytics (marketing)

41.6%

Digitialization (applications)

40.3%

Digital channel

development

36.4%

Analytics (underwriting)

30.3%

Cloud services

29%

Digitalization (commercial

services)

27.7%

Image capture/workflow

27.3%

Outsourcing

25.5%

Straight-through

processing

21.6%

Kiosks, self-service

tools

17.7%

Robotic process

automation

15.6%

Blockchain

7.4%



Last year, 27% of bankers reported partnering with fintechs to access new customers. That figure rose to 33% this year. Similarly, while last year 26% of bankers reported partnering with fintechs to drive down their own operating costs, 30% did this year.

The relationship between banks and fintech companies appears most fraught at the level of medium-to-large institutions. Among banks with between $1 billion and $10 billion of assets, 43% reported competing directly with fintechs in one or more core business lines. Among the same cohort, 43% also reported partnering with fintechs to gain access to new customers.

And, to be sure, there are those who view the incursion of fintechs into the banking sector as a mortal threat to the industry.

“Fintech and credit unions will destroy community bank small business and retail lending due to our extensive compliance burden compared to their limited regulatory burden,” one respondent predicted. “These businesses will go the way of community automobile lending... within the next five years... Regulators are oblivious to this!”

1.3%

10.4%

47.2%

3%

16.9%

4.8%

16.5%

Figure 6: Biggest Risk to Business

Compliance risk

Vendor management risk

Inability to innovate/compete/staysecure due to old technology

Internal personnel risk(“rogue employees”)

IT security

Competition from FinTech companies(other than marketplace lenders)

Marketplace/P2P lending



PERENNIAL RISKS, NEW OPPORTUNITIES As we have in the past two years of this survey, we asked respondents this year to identify business risks and revenue opportunities they saw on the horizon. With respect to the former, their greatest concern by a large margin was information technology risk. After a year in which massive data breaches at financial services and technology firms have been regularly in the news, the desire to not be the next victim is plainly taking up much of the industry’s focus.

Across all asset sizes, 47% of respondents said that IT risk was the biggest threat facing them in the coming year, and 77% counted it among their top three risks. Interestingly, the smallest institutions, those with under $100 million in assets, were the least concerned about IT security. Only 34% identified IT security as a top concern, perhaps reflecting an assumption that the larger institutions present more tempting targets for hackers.

It was banks in the $100 million to $1 billion of assets range that reported the most concern about IT security, with 53% citing it as a top concern. Less than

Figure 7: Please identify the top three items on this list with respect to their potential for revenue growth at your business

49.4%

Digital channels (commercial)

49.4%

Digital channels (consumer)

41.6%

Analytics (marketing)

39.4%

Payments apps, services

33.3%

Online lending

30.3%

Analytics (underwriting)

26.4%

Underserved services

24.2%

Mortgage platform upgrades



half of banks with $1 billion of assets or more identified IT vulnerabilities as their top risk.

Another top concern was the perennial worry of all financial services firms: compliance risk. Two-thirds of respondents said that running afoul of regulators was one of the top threats to their business in the near future. That concern was most prevalent among the smallest banks, with 77% of those with under $100 million of assets citing compliance risk as a major threat.

A third worry that cut across firms of all asset sizes was that out-of-date IT might cause problems, whether by stifling innovation, reducing the ability to compete, or leaving the company open to data breach. While more than half of all respondents flagged aging tech as a threat, the concern was most pronounced at the extremes of the asset distribution scale.

Among banks under $100 million of assets, 66% identified out-of-date technology as a major threat, and among those with $10 billion or more, the figure was 61%. Among banks between $100 million and $1 billion of assets, the figure dropped to 37%.

For banks across all asset sizes, optimism about the prospect of revenue growth from the digitalization of banking products seems to be fading. In this year’s survey, 49% of respondents listed the development and improvement of digital products for consumers as one of their top three opportunities for revenue growth. That’s down from 64% a year ago.

While it is possible that some respondents believe they have already realized these gains and have moved their eye to other opportunities, that seems unlikely with the lower end of the asset spectrum. Among banks with less than $100 million of assets, 64% saw digitalization of consumer products as a top three revenue opportunity a year ago. In this year’s survey, that figure fell to 40%. Even among banks with more than $10 billion of assets, those that listed digitalization as a top potential revenue driver edged down to 57%



this year from 69% last year. In an environment when all banks are looking to digitalization as a way to reinvigorate their retail channels, it may be that the opportunity to differentiate in the space is ebbing.

Expectations were more stable when it came to the potential for digitalization of products for commercial customers, with 49% of all respondents listing it as a top revenue growth opportunity in the coming year, down just a tick from 50% last year.

Small banks continue to see the development of services targeting underserved consumers as a significant growth area, with 40% listing it as a top opportunity. Those figures were considerably lower for larger banks, though, at only 20%.

While the expectation of revenue growth related to digitalization may be waning, banks of all sizes view that process as a key method for improving the balance sheet in another way: by cutting costs. Banks of all sizes identified the development and implementation of digital channels, and the simplification and digitalization of product applications, as having high potential for producing savings in the coming year. The figures were somewhat higher the larger the institution.

Among the smallest banks in the survey, 69% flagged digitalization of some sort as a major source of savings. Among banks between $100 million and $10 billion of assets the figure grew to 76%, and among the largest banks it was 83%.

Another strong potential driver of cost savings, across all asset sizes, was the adoption of analytics to improve marketing operations. Forty-six percent of community bankers named it as a top opportunity for cost cutting, as did 45% of banks over $10 billion of assets.



FRONTIER TECHNOLOGIESThis year’s survey polled bankers about their interest in adopting applications that rely on relatively new technology: cloud computing, artificial intelligence, and blockchain. Often citing concerns about data security and regulatory disapproval, many banks remain cautious on the whole about aggressively integrating any of these new technologies into their operations.

Leadership in applying these technologies rests with banks with the most resources and scale. Early movers are those nurturing nascent technologies that peers still have not explored, generally opting for technologies offered by well-known providers. For instance, several large banks are working with IBM to apply its AI engine, Watson, to survey customer complaints. Ally Bank is working directly with Amazon to develop its voice-command capability in retail banking. TD Bank is working with Salesforce and Microsoft to migrate operations to cloud-based services.

Cloud computing has spurred the most engagement among banks, in part because when it comes to delivering basic services like office software and data recovery, the technology is relatively mature and secure. Small banks were the most likely to report the widespread use of cloud computing in those areas, with 46% reporting that they have extensively deployed cloud-

16.9

11.713.9

26.4

18.2

12.6

19.516 16.9 15.6

18.6

12.115.2

11.3

18.6

26.4

19.5

13.9

24.7

13.4

19.5

13.9 14.7

10

14.7

9.1

19.5

32

Data Recovery/BackupInfrastructure as a ServiceData AnalyticsMobile Banking Appliations

Development and Testing of Applications

CRMBasic Office Software

Figure 8: To what extent have you considered cloud computing for the following use cases?

Have deployed extensivelyHave implemented in a minor wayHave tested but not implemented

Considering testing



based data recovery and backup systems. That compares to just 32% of the largest institutions. Cloud-based basic office software has been adopted by 29% of the smallest banks in the survey — roughly the same as the rate at the very largest banks. Respondents acknowledged the technology’s potential to provide efficiencies — cloud adoption was selected among the top three items that could provide a business with cost savings.

Banks in the larger categories surveyed — those with over $1 billion in assets — are plainly leading the way when it comes to applying cloud computing to other aspects of the business. For example, more than half of institutions in both categories have begun using cloud-based systems in areas such as mobile banking applications. Nearly half have adopted cloud services for customer relationship management.

At a time when retail businesses are steering customers to chatbots and automated virtual assistants for basic customer service questions, banks are being more deliberate. In part, that may be driven by a sense that customers will be put off by the impression that the company they trust their financial well-being to is reluctant to deal with them in person.

“There’s a lot of talk about great technology enabling better customer experiences,” one respondent noted. “But it has to be balanced for those who prefer face-to-face discussions (with humans!) when making important investment decisions. Can we find a happy medium?”

Figure 9: What is your level of interest in blockchain technology for the following use cases?

Domestic Payments

27.3%

2.2% 3.5% 3.9%

International Payments

22.9%

3.5% 2.6% 3.5%

Clearing and Settlement of Securities

21.2%

3.5%5.2%

3.9%

Clearing and Settlement of Derivatives

17.7%

3.5%3.0%

3.5%

Supply Chain management

19%

3.9% 3% 3%

Private Equity Deals

16.5%

3.9%1.7% 3%

AML/KYC/Identity Management

19.5%

4.3%3.9%3.5%

Mortgage Documents

19.9%

3.9%6.1%

3.9%


Considering testing



The largest banks appear to be attempting to do just that, with more than 30% beginning to integrate AI into systems as a means of improving human-delivered customer service. Additionally, 29% reported that they have begun to use chatbots or other automated assistants.

Another area where AI is showing potential promise is fraud detection. While few banks have extensively deployed AI-based fraud detection at this point, more than one-third of the largest banks report that they have at least begun to test it, suggesting that more widespread adoption might be on the horizon.

The survey suggests that automation, which is a key goal of AI adoption, has strong support among banks as an investment for branches. The 44% of all respondents supporting automated, self-directed service technology then are ready constituencies for AI applications that can help a bank achieve a similar outcome across other aspects of the business, if it can be demonstrated to them.

Of all the emerging technologies respondents were queried about, blockchain requires the greatest amount of development and faces the greatest level of regulatory scrutiny. It lags the most in terms of widespread adoption, as even the industry’s traditional early-movers have not formulated fully-developed working models for its implementation. Firms that traditionally follow


Considering testing

UnderwritingAML/KYCFraud DetectionRisk managementCustomer Analytics

Engaging with Customers via Chatbots

or Virtual Assistants

Improving Human-Delivered Customer Service

Figure 10: What is your level of interest in artificial intelligence technology for the following use cases?

39%

8.2%7.8% 8.2%

33.3%

6.9%9.1%

3.5%

40.7%

9.5%11.3%

5.2%

38.5%

9.1% 10%6.1%

38.1%

10%

16%

6.9%

32.9%

9.1% 9.5%5.6%

29.4%

11.7%

4.8%7.8%



leader banks in development thus have largely adopted a cautious stance on blockchain, but are willing to consider testing applications.

“If the technology matures, and has obvious benefits for capital markets-focused entities, we would definitely have interest,” one respondent wrote. “Such opportunities have yet to present themselves to us.”

“Blockchain is not mature yet,” another responded, saying that significant investment in the technology at their firm remains at least a year away. “I believe most large institutions are doing the same.”

That said, the biggest banks, which have the wherewithal to invest in the research and development of new technology, are probing the frontiers of blockchain applications.

Nearly half of the largest banks, for example, expressed openness to implementing blockchain-based solutions for domestic and international payments, though the percentage who have begun doing so remains small.

Just over half of the largest banks surveyed said that they would consider using blockchain technology for clearing and settlement of securities transactions, and nearly as many said they would consider it for derivatives transactions.

Smaller institutions will need fintech partners to help bring blockchain into their operations, and in most cases, those partners simply aren’t there yet. Adoption could be greater, as firms at this level cite concerns less to do with the technology, but rather with their overall existing technological architecture.

“Community banks are heavily tied to old core systems and vendors,” wrote one respondent. “Often these vendors are slow to innovation, slow to integrate and slow to implement. We sometimes have to wait months and typically years to offer some digital features to customers.”

As with past technological shifts, when larger institutions — and regulators — become increasingly comfortable with blockchain, it’s likely that its use will migrate into the operations of smaller banks.



CONCLUSIONSAll banks are looking at spending increases to varying degrees in 2018, led by where the priority for upgrades and improvement fits best for their category.

After another year of high-profile cyber attacks on major financial institutions, banks remain intensely focused on reinforcing their security. Universally held concern about IT security has made it a top risk to firms and a top technology spending priority. Most recently, for example, JPMorgan Chase, American Express and HSBC announced they would participate in a funding round for Menlo Security, which is working on “isolated browsing” technology as a way to guard against phishing and other security risks.

The technology trends in the market today present a unique challenge to banks. Digital innovation offers real opportunities to operate with greater efficiency, increased scale and increased profitability. What emerges from this survey is a model very much like the one cited just above: Launching a graduated implementation, led by testing in specific uses that can directly impact processes in the moment; establishing a partnership with a trusted technology provider to help defray development and testing burdens, and doing these while improving digital security to maintain confidence in service as a business shifts toward digital.

Noteworthy at this moment is the evidence in this year’s survey of the change in spending plans at small banks. Clearly, those companies, which had previously looked to be in wait-and-see mode on a range of technology initiatives, have shifted their point of view. That could be an acceptance that much of the spending they anticipate — whether in security, compliance, or cloud technology — is no longer discretionary.

The digitalization of the industry continues apace and as it does, both sides of the income statement are implicated. What may be changing at this point is the frame of reference through which executives are assessing the risks and opportunities that these changes present. Revenue opportunities exist but for how long? As the industry adapts, the shift to digitialization becomes table stakes. Nonetheless, the potential efficiencies for financial institutions, as well as the potential risks from falling behind, only continue to mount.

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