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A digital revolution – Financial Technology – commonly known as “FinTech,” is increasingly becoming popular in conducting financial transactions. Apart from making payment processes simple, this growing sector reduces fraud, and save time and money.

But haven’t banks been providing the same services for time immemorial? Yes, banks are licensed institutions authorized to accept deposits and make loans.

So what exactly is driving growth in the FinTech sector? Will these companies gradually overtake traditional banks in terms of providing products and services? Or whether they will remain as alternative financial service providers alongside banks? Let’s try to find answers to these and many such questions.

The distrust toward banks, post the 2008 financial crisis, has been one of the main reasons behind the rise of FinTech companies, which offer similar services on an alternative platform.

Some FinTech companies that got listed over the past one year and continue to perform well include LendingClub Corp. (LC - Free Report) , On Deck Capital, Inc. (ONDK - Free Report) , LendingTree, Inc. (TREE - Free Report) and Square, Inc. (SQ - Free Report) . These companies offer services ranging from online loans to point-of-sale software. Apart from these, many FinTech startups – BillGuard, Stripe, Venmo, WePay and Wealthfront – are gradually becoming the preferred choice of customers.

Will FinTech Pose a Threat to Conventional Banking System?

In present times, banks are already affected by several issues that are beyond their control, such as straitened top-line growth, stringent regulations, slow economic recovery and changing consumer behavior. The increased competition from FinTech companies adds to this.

In its 2015 annual review of global banking report, McKinsey & Co. stated that over the next decade, digital revolution will likely wipe out approximately 60% of earnings from certain financial products, as FinTech drive prices down and eat away lenders’ profit margins.

Globally, banks record profits of roughly $1 trillion, thereby providing incentives to FinTech companies for seizing a thin slice of market share with cheaper and convenient services. With currently around 12,000 FinTech startups in the field, this could mean a big threat for banks (both big and small) in terms of revenue and profit.

Further, in the report, McKinsey said, “The consequences for banks are quite dramatic. The substantial value that banks generate from distribution may be captured by others. Margins will come under pressure, and the customer relationship, a platform from which banks sell other, higher-margin, fee-based products, will be weakened or might even disappear.”

This is expected to be true, particularly, for smaller banks. As these banks already face revenue pressure, continued rise in compliance costs and competition from big banks; threat from the growth of FinTech companies is anticipated to further adversely impact their bottom lines.

Also, banking industry is traditionally conservative regarding change. But if banks fail to modify and adopt the changing preferences, this could lead to a significant damage.  

Can Banks & FinTech Go Hand in Hand?

The answer to this question is yes. It’s not easy to do away with banks altogether. Hence, banks are here to stay along with the FinTech companies.

Banks seek to serve its customers with cheaper products at a faster pace. Also, clients’ convenience remains a big factor. Hence, of late, taking note of rising competition from FinTech companies, banks are joining hands with them instead of considering them as competitors.

The most recent partnership in this line has evolved between the banking behemoth JPMorgan Chase & Co. (JPM - Free Report) and an alternative small business lender, On Deck. Alongside, KeyBank, which operates under KeyCorp. (KEY - Free Report) , entered into a strategic partnership with Aptexx, a provider of payment and property management software (read more: JPMorgan & KeyCorp Join Hands with FinTech Companies).

Another major bank, Regions Financial Corp. (RF - Free Report) collaborated with a Fintech startup, Fundation Group LLC, to diversify its lending base. This will enable the company to offer its lending products to Fundation Group’s online customer base which comprises small businesses.

Therefore, we believe banks and FinTech companies will increasingly complement each other to better serve customers.

Final Thoughts

Digitalization of the finance world is necessary. So, FinTech companies are here to stay.

Earlier this year, JPMorgan CEO Jamie Dimon, in an annual letter to shareholders, wrote, “Silicon Valley is coming.” This highlights the growing importance of the FinTech sector.

Nevertheless, it is still a long way before FinTech completely changes the way we conduct financial transactions. Until then, let’s keep a watch over the sector and take wise investing decisions.

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