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CEO of One on Bank vs Non-Bank, Living Within a Budget & Innovation
Biden's EO, Fed Paper Says High Overdrafts Help Lowest Earners, LendUp Calling it Quits?
Hey all, Jason here.
It really feels like every week there is even more interesting fintech news than the one prior, if that’s possible. I wanted to include a bit on the mounting global regulatory scrutiny into crypto exchange Binance (and the hiring of former California DFPI commissioner Manny Alvarez by its US affiliate, Binance.US) but ran out of space!
Hopefully this Sunday finds you well. Around the time this lands in your inbox, I’ll be enjoying my first brunch here in the Netherlands in over a year — making a day trip to nearby Rotterdam out of it. Salud!
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LendUp Calling It Quits in the Loans Business?
(disclosure: I was an early employee at LendUp and still hold a small amount of equity in the company)
It would appear that, after a decade or so, the online payday lender is calling it quits, directing users visiting LendUp.com to its new challenger banking product, Ahead Money. LendUp has, over the years, experienced a number of run-ins with state and federal regulators; most recently, settling with the CFPB for violations of the Military Lending Act, which is designed to protect members of the military, this January.
The pivot to a challenger banking product comes with a number of risks.
LendUp/Ahead is a late entrant into a crowded field. Its offering lacks differentiation. Competition for customers is fierce, especially in the low/moderate and income volatile segment LendUp has historically focused on. And nearly 10 years into its journey, the company is likely to have a difficult time raising new capital.
I reached out to ask the LendUp team about the site notice, but they declined to make a public comment on the matter.
The website appears to have been updated this morning to remove the message, though it’s still not possible to apply for a new loan.
Fed Researchers: Higher Overdraft Fees Help Low Income Consumers Stay Banked
I came across this post on overdrafts, fee caps, and financial inclusion last week on the Federal Reserve’s Liberty Street Economics blog. The post and underlying academic paper examine data from a natural experiment resulting from a clarification in 2001 that nationally chartered banks were exempt from state-imposed fee caps on overdrafts.
The authors use the data to argue that the higher overdraft fees that banks subsequently charged increased the availability of overdrafts, resulting in fewer returned checks, and thus helped low income consumers maintain bank accounts and stay in the banking system. The authors state:
“The trade-off we identify suggests that banks operating under a hard, self-imposed fee cap may be less willing to allow overdrafts, cover checks, and accept deposits from households prone to overdrafts.”
Further, the authors point to the fact that customers experiencing overdrafts didn’t close their accounts to argue that, even once aware of the fees, their observed preference was to keep the account, and thus the higher fees and greater account access should be interpreted as a net positive for them.
I understand the economic argument that price caps constrain access to credit, and, indeed, have written about it previously here, here, and here. However, I take issue with a couple elements of the authors’ analysis.
First, the data in the report is from 1999 - 2003, as that is when the policy change occurred to generate the data the authors used. While I appreciate the scarcity of this kind of “natural experiment” data, so much has changed in consumer banking since then, I would argue the conclusions drawn no longer apply.
For instance, new rules requiring customer opt-in to overdraft ‘protection’ for certain types of transactions went into effect in 2010. According to a CFPB study in 2014, only 14.3% of accounts had opted in; thus rebutting the authors’ conclusion that consumers prefer access to overdrafts, even when they come with high fees.
Second, the data set the authors leverage looks only at checks — those that caused overdrafts or were returned for non-sufficient funds. While this may have been a good enough indicator in the early 2000s, consumer preference has shifted strongly away from checks toward electronic payments.
Consumer behavior and overdraft preferences for check transactions are unlikely to generalize to other payment methods, especially debit.
Finally, there’s no mention of challenger banking products, which have successfully attracted millions of users with their low or no-fee structure — including for overdraft coverage. Particularly for the small proportion of consumers who generate the lion’s share of overdraft revenue, it seems indisputable they would be better off with a banking product that reduces or eliminates these fees.
The existence of products like Chime and Varo would seem to belie the authors’ argument that higher fees are necessary to encourage banks to offer products to lower income customers (with the caveat that time will tell if these novel, interchange-dependent business models are economically sustainable).
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Interview: Brian Hamilton, Co-Founder & CEO of Digital Bank One
Digital bank startup One aims to offer consumers a simplified “all-in-one” account to manage their finances — including saving, spending, and borrowing. In a crowded challenger banking market, it can be tough to create a differentiated product offering, especially when most offerings work with a partner bank (One partners with Coastal Community).
I recently had the chance to talk about what makes One different, operating as a bank vs. non-bank, and innovation in financial services with co-founder and CEO Brian Hamilton. What follows is a written version of our discussion.
Jason: You’ve previously highlighted the cost structure advantage of digital banks like One vs. establishment banks; can you expand on where the cost savings come from and what that enables you to do for your customers?
Brian: One does not have the traditional overhead that brick-and-mortar banks have. Instead of pocketing that cost savings, we put it into product offerings, such as the 3.00% Annual Percentage Yield customers receive when using our Auto-Save feature.
This industry-leading rate is sustainable because it is designed to help our customers build new savings balances, rather than for moving large balances from other banks. This means they can contribute to this Pocket only through automatic savings habits, such as card round ups and paycheck contributions. The aim of products like these is to help people build savings while they spend to conduct their daily financial lives.
We are committed to maintaining these rates as a service to our customers and to generating revenue through interchange and lending, instead of through fees like large banks. This is our way of giving back to One customers.
Jason: There are a lot of new financial services products these days; what makes One different? Who is the target audience for its products? Why would someone choose it vs. a traditional bank or another upstart?
Brian: We believe consumers don’t want to have a fractured financial life. Maintaining an average of five to seven accounts across various players is time-consuming and overly complicated. They have to put a lot of calories into making sure their money goes where it needs to be and doing what it needs to do. We think consumers today are looking for integration of services, automation that supports their goals and desired outcomes, and some of that old-fashioned good customer service.
Jason: With some establishment banks, like Ally, PNC, and Capital One beginning to offer fintech-like features, does it erode the value proposition of One? Why or why not?
Brian: There has been a race to re-bundle and re-make the traditional bank into a modern, full suite, digital-first experience. One just better aligns what’s good for the customer, across a broader set of services, with our long-term success than traditional banks or incumbents do.
If you look at most of the neobank offerings, they are basically a better user experience on top of a debit card. The checking account behind the scenes is the same thing it always was. They just improved the UI and the UX. And, to be fair, there was a lot of low-hanging fruit, because banks’ UI sucks. We built our own architecture down to the rails. It’s the difference between ‘rent an architecture’ versus ‘own your architecture’. When you own it all yourself, you have a lot more autonomy to do meaningful things.
Jason: You describe One as helping its user "live within a budget" and "save for the things that matter." How does One uniquely do this vs. other banking products?
Brian: Living within a budget while saving for the future doesn’t have to be a time-intensive task. The easiest way to build back up savings is to make it automatic. One has created an effortless way to put your savings on auto-pilot with card Auto-Save. Our goal is to help customers build healthy financial habits that will literally pay off in the future. Instead of a traditional piggy bank or jar by the door, their virtual change collector, card Auto-Save, will automatically calculate round ups on every card purchase and earn 3.00% APY*. They’ll be able to watch their savings automatically grow with everyday purchases.
*Annual Percentage Yield effective as of 9/1/2020 and subject to change. 3.00% APY available on all Auto-Save balances. Maximum contributions of up to $1,000 per month in paycheck Auto-Save and no maximum contribution for card Auto-Save.
Jason: There's been industry chatter and regulatory action around use of terms like "bank" and "banking" by companies that partner to provide those services.
Do you think One's users understand/care about the difference?
Brian: Yes. Our impression is that One customers do care as well as understand the difference between a bank and digital banking service. We go the extra mile to make sure our disclosures are visible on all communications and websites. They chose us because of our innovative model. At One, we believe the best bank is not a bank.
Hard-working people deserve so much more than what traditional banks offer. One is not a bank. And we believe that is a good thing. Low interest rates, charging fees to access your money, sharing only with a single person and investing trillions in dirty energy. If that is what being a bank is all about, then we want no part of it. One seamlessly combines saving, spending, sharing, and borrowing into one account—with one card.
Jason: What kind of language would you use to describe One to consumers vs. regulators vs. investors? Why?
Brian: It’s the same message across the board. One is reinventing everyday finances. We are delivering a unified experience of money shaped to individuals and families’ real lives. We improve access to low interest credit and help them build high-yield emergency savings.
Jason: One currently operates via its bank partner, Coastal Community. Does One have any plans to pursue a charter? Why/why not?
Brian: While the deposits and loans that One generates reside on Coastal’s balance sheet, One’s core system tracks everything as if it were a freestanding bank. One’s records flow into the bank, getting recollated for Coastal’s regulatory reporting purposes. One is already organized as a standalone bank although it doesn’t have a charter and relies on Coastal for deposit insurance and the ability to offer a credit card nationally.
Jason: There is a lot of innovation happening in the financial services space at the moment, with emerging capabilities like cash-flow based underwriting, payroll APIs, and even crypto/stablecoins getting a lot of attention for their potential to help meet the needs of underserved consumers. What technologies are you the most excited about and why?
Brian: I think the use of alternative data to better serve customers that are on the margins of traditional credit score underwriting will continue to be impactful for these customers. Newer technologies like crypto and stable coins will have an impact on the broader financial system, but primarily for those with investable assets and savings that might otherwise be held in traditional accounts. These will play a much larger role in the future, but it will take time for their full effect to reach the most underserved. A possible exception here is third world global markets that need relief from currency regimes and poorly run governments.
Biden Executive Order Pushes for 1033 Rulemaking, Limits on Bank Mergers
On Friday, the Biden Administration published a lengthy Executive Order designed to promote competition in the American economy. The order is wide-ranging, covering industries from airlines to healthcare, and it includes a couple of provisions intended to promote competition in banking.
The statement accompanying the Executive Order is worth reading as it offers a window into how the Administration thinks about competition in the financial services sector (emphasis added):
“Over the past four decades, the United States has lost 70% of the banks it once had, with around 10,000 bank closures. Communities of color are disproportionately affected, with 25% of all rural closures in majority-minority census tracts. Many of these closures are the product of mergers and acquisitions. Though subject to federal review, federal agencies have not formally denied a bank merger application in more than 15 years.
Excessive consolidation raises costs for consumers, restricts credit for small businesses, and harms low-income communities. Branch closures can reduce the amount of small business lending by about 10% and leads to higher interest rates. Even where a customer has multiple options, it is hard to switch banks partly because customers cannot easily take their financial transaction history data to a new bank. That increases the cost of the new bank extending you credit.
In the Order, the President:
Encourages DOJ and the agencies responsible for banking (the Federal Reserve, the Federal Deposit Insurance Corporation, and the Office of the Comptroller of the Currency) to update guidelines on banking mergers to provide more robust scrutiny of mergers.
Encourages the Consumer Financial Protection Bureau (CFPB) to issue rules allowing customers to download their banking data and take it with them.”
There are several notable takeaways here:
A focus on the number of banks and branches. I’ve previously written about the declining number of banks and branches, but a focus on halting this decline is misguided.
As banking has moved from an in-person and thus geographically-bound product to an online one, it shouldn’t be surprising that local banks with a small geographic footprint have become largely uncompetitive.
Their best chances for survival are through achieving national distribution through digital channels on their own, partnering with non-bank fintechs, and/or merging with other banks to gain scale and cost efficiencies.
Customer data portability aka “open banking.” While the CFPB has already begun the rulemaking process for Dodd-Frank 1033, this callout may influence how the rule takes shape, with an emphasis on how customer ownership of data can enable competition in the sector. This is good news for bank data aggregators like Plaid, MX, and Finicity. It’s likely bad news for big banks, which stand to lose the most if customers can more easily switch accounts.
Exec Order Welcomed by Fintechs
The news of the Executive Order was well-received in the fintech sector. Startup credit card company Petal, which relies on bank account data to underwrite applicants, shared this statement with me from CEO Jason Gross (emphasis added):
“This is a watershed moment in the effort to build an open and inclusive financial system—and a necessary step for the U.S. to keep pace with the financial innovation occurring around the world,” said Petal CEO Jason Gross.
“Cash flow underwriting, which is based on the rights afforded to consumers in Sec. 1033, could make safe and responsible credit available to tens of millions of Americans who have been traditionally underserved. We look forward to fulfilling that promise by collaborating with the CFPB on a Sec. 1033 rulemaking that truly puts consumers in control of their financial data.”
Venture Data Dump: FT Partners & CB Insights
Lots of good data and analysis on the venture ecosystem out last week, with FT Partners putting out their monthly deck, which tracks deal activity in the global fintech space.
CB Insights also put out a wide ranging report on venture activity across sectors, and the amount of activity in 2021, including “unicorn births” (companies valued over $1Bn), is truly astounding:
Other Good Reads This Week
A Banking App Has Been Suddenly Closing Accounts, Sometimes Not Returning Customers’ Money (ProPublica)
Bank (No Mercy/No Malice)
Buy Now, Pay Later Statistics and User Habits (C+R Research)
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