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Rise of Challenger Banking

By Ben Luthi
May 14, 2018

Have you ever heard of challenger banks? If not, you’re not alone. A fairly new term in the U.S. banking industry, challenger banks are financial institutions that provide banking services to consumers who want to avoid the costs and complications that sometimes come with traditional banks.

Challenger banks typically don’t have physical branches or hefty fees. They also focus on the building a better banking experience rather than offering a suite of products and services like loans, investing guidance and financial planning.

To better understand challenger banks, it’s first important to understand a bit more about the history of the banking industry as a whole. From there, you’ll appreciate why challenger banks are becoming so popular among consumers looking to save more money. Read on to learn more.

A Short History of Banking in America

Before the 1980s, banks didn’t have nationwide locations. So, if you went on vacation halfway across the country, you may have had difficulty accessing cash in a pinch.

The 1980s gave way to laws deregulating the banking industry, which included removing federal limits on the rates banks could pay on deposit accounts and paving the way for banks to open branches across state lines. Then, in 1994, President Bill Clinton signed the Riegle-Neal Interstate Banking and Branching Efficiency Act, making it even easier for banks to expand and acquire banks in other states. Big banks started making big moves.

For example, NationsBank bought Bank of America in 1998, marking the largest bank merger in U.S. history. It created the first nationwide retail banking network. Around the same time, Travelers Group Inc. acquired Citicorp; and Banc One Corp, a holding company for City National Bank, bought First Chicago NBD Corp. Other banks followed suit. Chase, Citi and Wells Fargo expanded their own networks, allowing Americans to visit branches in multiple states.

Banks kept growing until 2008 when the Great Recession began. When this financial crisis hit the U.S. economy, banks weren’t prepared. The U.S. government invested close to $205 billion to bail out banks across the country, including Wells Fargo, Bank of America, Chase and Citi. In return, both government regulators and bank shareholders pressured big banks to trim the fat, so to speak. The goal was to avoid another major recession and this led to big banks cutting costs for the first time in years.

The Fall-Out Result

This cost-cutting effort led big banks to shut down branches in hundreds of rural areas, and focus instead on heavily populated cities to get the biggest bang for the buck. At the same time, banks started investing in technology to appeal to younger consumers, while also offering services to entice wealthy customers.

While the banking industry was trying to reinvent itself, consumers couldn’t forget what happened in the late 2000s. For example, in 2008, just 32% of Americans had “a great deal” or “quite a lot” of confidence in U.S. banks, according to a Gallup poll.

To this day, many people are still unimpressed with the banking industry. In fact, only 27% surveyed were confident in banks in 2016, according to the poll. Major news like the Wells Fargo fake-account scandal hasn’t helped either, leaving customers wondering where else to turn.

The Rise of Challenger Banks

As more and more customers have grown dissatisfied with traditional banks, challenger banks have rose to the occasion.

With no physical branches and lower overhead costs, these online- and mobile-only banks can offer better products with lower fees. For younger generations, these features are appealing. For example, in 2016, FICO found that Millennials are two to three times more likely to switch banks than other generations. The company also found that 45% of Millennials cited high fees as their reason for switching to a new bank account.

Some of the earlier challenger banks included Simple and Moven. Simple, founded in 2009, started offering its mobile banking service in 2012. Up until it was acquired by BBVA in 2014, many considered Simple to be a sort of anti-bank. Meanwhile, Moven launched in 2011 as Movenbank and dubbed itself “the first everyday cardless bank,” using mobile payments technology that was still in its infancy.

These early challenger banks paved the way for Chime to enter the scene in 2014. Chime, with its mobile-first approach to banking, offers Spending and Savings accounts on behalf of of its banking partners. In addition, Chime helps its member save money with zero fees. For example, Chime’s Automatic Savings program allows you to automatically save a percentage of every paycheck. You can also round up each purchase you make with your Chime Visa debit card and transfer the roundup amount to your Savings Account.

As a result of these features and no fees, Chime is now the U.S. leader in the challenger banking segment. In the past four years alone, more than 750,000 Chime accounts have been opened with more than $2.5 billion in transaction volume.

Challenger Banks Face Some Hurdles

While challenger banks offer a valuable alternative to traditional banks, change is hard and many consumers still want to visit a physical branch at least now and again.

In a 2017 survey, for instance, PricewaterhouseCoopers found that while many consumers are visiting their banks’ branches less frequently, 62% still felt it important to have a bank with local branches. In a separate study, Accenture found that even Millennials anticipate using bank branches in the future, with 86% expressing interest, mostly for the human contact.

Challenger Banks Are Here to Stay

Even with its challenges, challenger banks are here to stay. Indeed, the benefits make it worth it for many to forego a trip to a brick-and-mortar location. Challenger banks have also stepped up to the plate to fill a growing need for Millennials in search of a tech-friendly solution that will help them get ahead financially.

So, now that you fully understand the perks of a challenger bank, are you ready to switch banks?

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