Financial services professionals are by and large sold on the prospect of developing "relationships with their customers." They hope for richer margins, less risk, less attrition, and more predictable volume. Indeed, some banks, brokers, and insurers have staked their brand and strategy on the development of these relationships. But many customers appear less than excited by this concept, given survey responses and their shopping behavior.

This dilemma should provoke a rigorous strategic debate in each organization espousing relationship strategies:

What is a relationship and whose definition matters - ours or the customer's? And what is the basis for the development of relationships? What conditions foster or deter them?

What Fosters Trust?

First the good news. Academic research in game theory and evolutionary psychology suggests that there is a logical predisposition for people to try and create win-win deals even with untested counterparties. In conditions of uncertainty, the economic theory of contracts suggests placing a sequence of small bets on a counterparty. The fulfillment of these initial bets creates ever deeper proclivities for additional and/or bigger bets.

Similarly, the "selfish game" theory predicts that humans are pragmatically coded by evolution to make these bets and fulfill their end of the bargain. We have evolved to innately calculate the value of keeping promises in an uncertain world. Put another way, most relationships are functional, pragmatic tools-not just warm and fuzzy feelings.

Now the bad news. Computer simulation and clinical research make clear that people, while generally poor statisticians, are excellent at spotting "cheaters." They will also give up even proven relationships based on a pragmatic analysis of the alternatives. Indeed, as uncertainty decreases, this analysis becomes straightforward.

In a commercial context, a relationship can be defined as a bias to do business with a specific counterparty based on special expectations of value and/or reduced cost and risk. These biases do not arise randomly. Certain circumstances tend to foster them, including:

Distinctive performance is desired;

Positive outcome is critical (big bets);

Shopping costs are high and learning is time consuming;

Switching costs are high; n Customization is valuable; n Third-party enforcement is difficult or expensive.

Those circumstances that deter biases include:

Services are perceived as commodities;

Downside is minimal;

Performance/contract information is cheap and easy to understand;

Switching is easy and quick;

Integration is easy/cheap, or not important;

Needs expectations are similar;

Exchanges are regulated/enforced.

The bottom line: Relationships are investments in trust. They become uneconomic when trust is broken, irrelevant, or too risky to attempt.

The linkage to branding strategy is compelling. This theory of relationships predicts that brands make most sense as communications devices under two conditions: to signal extraordinary promises of value in uncertain markets, and to signal that learning and shopping is uneconomic for the target audience.

So far we have discussed relationships with an implicit effort to think of things from an individual's perspective. But how likely is it that financial services suppliers will prosper in current markets with a relationship strategy? Core offerings in most categories today are relatively undifferentiated and well-regulated.

Most innovation is poorly protected by patent or secret technologies. Indeed, technology is allowing firms to commoditize previously extraordinary services. Think of sophisticated investing strategies and how rapidly they are commoditized by mutual funds.

Even more challenging is the fact that the individuals susceptible to relationships are ill-defined. They are unlikely to be the most active shoppers. Price and bundling incentives can therefore create inadvertent selection of unprofitable "surfers." And, over time, growing experience and self-confidence can create calculating shoppers out of advice-seeking neophytes.

Relationship Strategies

Added to this, specialists in bill presentment such as TransPoint (formerly MSFDC) are beginning to provide integration across commodities. And software "agents" will increasingly replace human-based relationships in categories such as business travel.

Does all this mean relationship strategies are untenable in retail financial services? No, but it does require would-be relationship providers to be ruthlessly self-critical.

The strategy of commodity providers is to steadily raise the bar of expected performance and reduce the value of relationships. The strategic response of firms competing on a relationship basis must be to create customer solutions at the receding "frontiers" of customer uncertainty/earning cost, etc.

The instinct of successful relationship providers is to continually challenge business-as-usual and innovate in value offered. This instinct requires would-be relationship specialists to be wary of copycat products and processes-even dressed up as industry "best practices."

If your organization is determined to win as a relationship provider, how might it distinguish itself? Five, mutually non-exclusive opportunities are suggested by the relationship model:

Raise performance expectations to "unreasonable" levels (e.g., during Desert Storm, USAA actually provided extra life insurance to its members in an active conflict zone);

Reduce perceived risk (e.g., American Express guarantees its card members that they will never be declined in a business setting unless fraud is detected);

Reduce shopping/learning costs (e.g., visit high-potential retail customers at home or work to set them up with customized PC banking and bill payment);

Raise switching costs (e.g., create customer profiles that tailor all interactions such as sequence of screens presented at the ATM or options on the voice response system);

Increase trust (e.g., Schwab trades up customers to their best money market account deal available given assets and behavior).

Many-not all-customers will respond to a relationship strategy. But packaging and cross-selling commodities doesn't count. And if you promise something extraordinary, be sure your entire business follows through.

New York-based First Manhattan Consulting Group evp Seamus McMahon can be contacted 212.557.0500.

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