Showing posts with label ING. Show all posts
Showing posts with label ING. Show all posts

Thursday, 20 February 2014

Challengers salami slice away at established banks dominance

The news that Paragon Bank (with an initial capital of only £12.5m) has become only the second new bank to be launched in the last one hundred years (Metro Bank being the first one), the first one to be authorised by the PRA (Prudential Regulation Authority) and to take advantage of the move by the regulator to simplify the process of setting up a new bank, is hardly going to have banks such as Barclays, Lloyds and RBS quaking in their boots. But is this just one more step in a trend that the big banks cannot afford to be complacent about?

The primary reason that Paragon has decided to apply for a banking licence is not so it can take on the established banks with a full offering of consumer current accounts and mortgages. It is so that it can take consumer deposits as a means of funding loans for the existing Paragon Group business. With interest rates low but expected to rise this should mean a lower cost of capital for the loans that they make than going into the wholesale market. With the experience that Richard Doe, the former ING Direct UK Chief Executive, brings from his former employer the new bank should be a success in competing for deposit balances. The low cost direct model for deposits has already been proven by the likes of the now defunct Egg and ING Direct. Whilst the press release from Paragon may talk about offering loans and asset finance it is clear from the recruitment of Richard Doe that the new bank will be initially focussed on raising the all important deposits.

Paragon Mortgages specialises in the Buy To Let (BTL) market for the residential market and has been very successful at this surviving during the crisis where the likes of Bradford & Bingley and Alliance & Leicester failed. It is this focus on a specific customer segment that gives it the advantage over the Big Five UK banks - Barclays, RBS, Lloyds, HSBC and Santander. It has taken the opportunity to build deep expetise in Buy To Let and are front of mind for mortgage brokers looking to play BTL business.

Competition in the BTL sector was decimated following the financial crisis with many small players and building players going out of business. However competition is picking up again with all of the Big Five, Nationwide and some of the other building societies increasingly attracted by the bigger margins that the Buy To Let market attracts over owner-occupied residential mortgages. Paragon is, to many extents, the incumbent that the other banks have to shake. It should still be able to succeed in this market because it isn't just another business for them it is the only business segment they are in. Paragon does not have the cost of running expensive branch networks distributing either directly or via brokers. As long as they can continue to excel in the service they provide to brokers and to landlords they should be able to continue to punch above their weights against the larger generalist players.

While the politicians champion the idea of a few large challenger banks coming into the market to take on the Big Five banks and reduce their market shares in deposits, current accounts and lending, with the Labour Party suggesting that they will break the banks up should they come into power, a different reality is going on in the market. The likes of TSB (still owned by Lloyds Banking Group but due to float), William & Glynn's (owned by RBSG and, again, due to float) and Tesco Bank attract the most attention from politicians and the media, but in the background smaller niche players have quietly gone about picking off rich segments of the traditional banks market share.

Handelsbanken with its 170 branches, largely in market towns, has targetted SME customers and private customers with above average earnings who appreciate having a local branch with a local manager who is empowered to make decisions rather than leaving it to the computer or Head Office has quietly gone about building a sizeable, highly profitable and satisfied customer base. Aldermore launched in 2009 focussed on SME customers has lent more than £3bn pounds. Metro Bank has focussed on customers in urban areas that like both visiting branches and having extended hours. There are other focussed challengers either already out there or preparing to launch.

Competition to the dominant banks from challenger banks is already here, it may not always be head on and obvious but rather by quietly salami slicing away the better, more profitable cuts from the market share of the established players, while the big banks are left with less desirable segments. It is for this reason the launch of Paragon Bank should be welcomed as just one more step forward towards a more competitive banking market.

Friday, 4 May 2012

Why Lloyds shouldn't dismiss selling Scottish Widows



Following the rumour that private equity vehicle Tungsten, formed by Duke Street founder Edmund Turrell and his brother, was preparing a multi-billion bid for Scottish Widows, Antonio Horta-Osorio, CEO of Lloyds Banking Group, stated that the Group was 'absolutely' not selling Scottish Widows. Should Horta-Osorio have adopted the Sean Connery line regarding his return as Bond and said 'never say never' - was he over hasty in his response? Is there no price at which Lloyds should sell Scottish Widows? There are many reasons why the disposal of Scottish Widows should not be dismissed out of hand.

Scottish Widows was bought in 2000 for £7bn by the then Lloyds TSB CEO, Peter Ellwood, ably assisted by his deputy Mike Fairey. At the time many thought that Lloyds TSB had overpaid for  Widows, but it was a major plank in Peter Ellwood's strategy to build a major bancassurer. He was not alone at that time having a vision of creating a money supermarket, a one-stop shop for retail financial services from a bank. This vision was shared across the globe with the likes of Citibank acquiring Travellers and ING and AXA all pursuing this vision. However that was with the optimism of the new millennium and now in 2012 following the financial crisis most, if not all of those who adopted this strategy have abandoned it.

Certainly one reason that bancassurance has proved not to be successful is the fundamental difference in culture between a retail bank and a life assurance company. Retail banking is all about transactions, taking a short term view - daily interest charges, leveraging the differences between the deposit and the lending rates, taking and managing risk, whereas life assurance is much more focused on the long term with low volumes of transactions and risk aversity. Bringing the cultures of these two types of business together is like trying to mix oil and water, as has been shown in the market.

Apart from the cultural differences there are other reasons why Lloyds Banking Group could be better off without Scottish Widows. With the impending imposition of  Solvency II regulation, insurers are going to be required to hold higher levels of capital than they currently do, which will make doing the business of life assurance more expensive. Layer on top of that, for the likes of Lloyds Banking Group, Basel III and the recommendations of the Independent Commission on Banking (ICB) and the capital requirements are even higher. Long gone is the efficiency of being able to apply the same capital to both the insurance company and the bank. With the cost of acquiring capital being a lot higher than it was at the beginning of the century this further increases the cost of simply doing business.

It is surprising that Antonio Horta-Osorio is defending the bancassurance model, since the bank he came from, Banco Santander, one of the banks that has survived the financial crisis better than most, despite being headquartered in Spain, has always vehemently argued against both the bancassurance model and investment banking and could justifiably say that they have been proved correct. It was most commentators' expectations that given his experience and training that Antonio Horta-Osorio would see the disposal of Scottish Widows as one of his highest priorities.

Another reason to be shot of Scottish Widows is the introduction of the rules coming out of the Retail Distribution Review (RDR). RDR fundamentally challenges the bancassurance model, makes the cost of selling life assurance and investment products much higher. It has seen Barclays and HSBC amongst others, withdraw from selling mass market assurance products and subsequently laying off thousands od staff in the process. Lloyds Banking Group  is almost a lone voice on the high street still offering assurance and investment advice to the mass market. This may be a smart decision on the part the Group or could it be that the others are all correct?

Certainly if there is someone prepared to make a good offer for Scottish Widows then it could be in shareholders' (and that means UK tax-payers and the UK Government) best interests that LBG makes the deal as this would be a rapid way of paying down debt and should see a significant increase in share price.

The cost and difficulty of separating Scottish Widows from the rest of Lloyds Banking Group is far lower and far simpler than that of separating the 632 Verde branches that LBG is negotiating with Co-Operative Financial Services. The reason for this is that, despite Lloyds TSB acquiring Scottish Widows in 2000, the level of integration between Scottish Widows and the rest of Lloyds Banking Group is relatively low. It has been managed largely at arms length and therefore carving out would not be that difficult, so this is a deal that could be executed relatively quickly and the benefits achieved faster than other disposals.

Certainly if Scottish Widows was sold that would give Antonio Horta-Osorio and his team the chance to focus on the core issue of restoring what was a great and much-admired bank not just back to where it was before it was forced to buy HBoS, but to be even better and even more a bank for customers of the 21st century.