Banks Need To Prep For Open Finance

Although many financial institutions remain skeptical about the future of the open finance business model, a report recently released by Celent Communications predicts that by 2006 almost 100% of the top U.S. and European banks will supply their customers with complementary third-party financial products by 2006, up from 60% in 2002.

So while some banks may be reluctant to move forward with this model that the report describes as "ineluctable" for financial institutions, this report reveals that they will be left out in the future of banking if they avoid it. The reason: customers are already demanding the ability to choose financial vehicles from a variety of sources. In lieu of providing access to such resources, some banks have decided to develop insurance and securities products in-house, a strategy that has been somewhat less than successful, according to the report.

Banks could "capture more profit by distributing third-party products rather than in-house products," said Gwenn Bezard, senior analyst at Celent and author of the report.

Indeed, Bezard believes the banking industry has been drifting unknowingly toward the open fiance model throughout the 1990s, by placating the consumer's desire to shift their assets from deposit to investment instruments and to use the Internet to manage their finances. To meet these consumer demands, banks now offer asset securitization and other features that have shifted them away from product manufacturing and towards product distribution.

"Bankers should be aware to the fact that over the past 5 to 10 years they have been focused on the distribution side because they make more profit on that side rather than the production," Bezard said.

In addition, Bezard describes a number on institutions that have openly adopted the open finance strategy during the 1990s, and by doing so, are forcing the rest of the banking industry to follow their model. This shift has placed increased pressure on banks to provide more choices for their customers, but all of these additional options come with a price. This situation is ripe for the open finance model to step in, which would allow banks to provide more options through a third-party provider without having to produce more costly in-house products.

Furthermore, banks now have to contend with the new financial factories, large providers specializing in a limited range of products such as GE Capital that are taking advantage of the open finance model. "Over the past 2 years there has been a large increase in financial factories to provide more products available to banks and non-banking companies. Bankers need to be aware that the (financial) factories are getting huge economies of scale at the global level which gives them a strong competitive advantage over traditional banks."

The report is available to Celent members through their website www.cellent.com.