Deep Dive: Credit Unions Respond To The Threat Of Digital-First Challenger Banks

Credit unions (CUs) have competed with banks that offer similar products for years, but their strength has long remained in the value of member relationships and ownership in the CU.

New players in the financial services landscape are shaking that foundation with competitive digital offerings, and a new class of digital-only banks known as challenger banks and neobanks — which have taken hold in Europe and are beginning to make inroads in the U.S. — are also emerging as a threat.

Monzo and Atom Bank were among the first group of neobanks that emerged in 2010, later followed by other entities including Chime, Moven, N26, Revolut, Simple, Starling and Volt Bank. Challenger banks and neobanks are projected to grow at a compound annual growth rate (CAGR) of 46 percent worldwide over the next five years.

The terms “challenger banks” and “neobanks” are often used interchangeably, but they have distinct differences and often present separate challenges for CUs. Neobanks are digital-only banks that offer customers mobile and web-based banking services that are powered by a partnering bank, while challenger banks carry their own banking licenses and can offer a range of banking functions.

Both types of financial institutions (FIs) allow customers to quickly open accounts, use mobile apps and access around-the-clock support. The following Deep Dive explores the challenges these players pose, and the steps CUs can take to remain competitive.

How Serious Is The Challenger Bank Threat?

CU decision-makers are aware of the competitive threat challenger banks pose, with 30 percent saying that they believe their members are “very” or “extremely” likely to switch to challenger banks during the next three years. Another 31 percent believe they are “somewhat” likely to do so, according to findings from the May 2020 Credit Union Innovation Playbook: Challenger Banks Edition.

The playbook shows that 35.9 percent of members who are interested in services from challenger banks say it is partially because they believe they offer easy-to-use and convenient services. Thirty-two percent say that it is easier to use their online services. The ability to use ATMs from any other FI without restrictions is also a draw for 34.8 percent of CU members.

Some digital technology providers have differing views of challenger banks’ threats, however. Jeffrey Kendall, executive vice president of North America sales and distribution at banking software firm Temenos, said challenger banks do not necessarily pose a major threat when it comes to deposits. He noted that account holders are reluctant to transfer funds such as their paychecks from their primary accounts at CUs to ones at challenger banks, presenting a major barrier to market domination.

Trust is another key factor that favors CUs, with 51.1 percent of CU members citing it as a reason for their lack of interest in challenger banks, according to the Credit Union Innovation Playbook.

Kendall suggested that CUs build on what sets them apart from challengers, such as their human connections with members, while continuing to expand their digital products. This may seem difficult, given that customers are largely avoiding brick-and-mortar branches because of the pandemic, but there are still ways that CUs can digitally deliver personalization and human connection. CUs’ mobile apps and online banking platforms can connect members with CU representatives for personal, one-on-one experiences, for example.

It is worth noting that CU members of all ages clearly perceive challenger banks as uniquely capable of delivering digital banking services, according to PYMNTS research.

Closing The Customer Satisfaction Gap

CUs would be wise to focus on making technological upgrades to their banking experiences — both online and at their physical branches — to keep their members satisfied with their services as the pandemic recedes. CU members increasingly prefer digital tools while continuing to place a high value on being able to bank in person. This factor significantly plays into their perceptions of challenger banks. PYMNTS research found that 41.5 percent of CU members cite being unable to visit branches as a reason challenger banks would offer inferior service compared to their current CUs.

CUs hold a competitive advantage over challenger banks: members’ perceptions of greater data security and deeper trust. CUs must develop the innovative digital offerings their members are seeking during the health crisis to fend off rising competition and close the member satisfaction gap.