A Bank of America Corp. collaboration with the Massachusetts Institute of Technology has spawned one initiative to research the way technological innovation, and consumers' responses to it, that could shape retail financial services in the coming years.
No less ambitious in scope is a second project just launched, one that looks at an idea risk managers can only hope is possible: whether by crunching enough data, patterns can be discerned that point to the origins of financial turmoil and credit crises.
The Charlotte banking company said on Tuesday that the Laboratory for Financial Engineering at MIT's Sloan School of Management would evaluate a huge pool of its financial data to identify, among other things, potential red flags for systemic problems.
Prof. Andrew Lo of the Sloan School, who also directs the laboratory, said the project will study how a rapidly evolving marketplace has transformed the financial landscape. The bank and the lab will try to develop "early warning systems" that could pick up signs of trouble that go deeper than indicators like the underwriting surveys that color current understanding of the subject.
Among other things, B of A will supply an extensive database of transaction details it has collected over the years, including both retail and institutional credit relationships. The data is to be scrubbed of information that would compromise customer privacy, but would include some details to help the researchers find and understand customers' behavior patterns.
MIT and B of A are still deciding exactly what data the bank will provide, but Prof. Lo said he hopes to get information on its consumer credit, credit cards, mortgages (including the Countrywide portfolio), account balances, spending patterns, payment records, and demographics. "We don't know how forthcoming they will be able to be," he said.
Though the credit crisis has been blamed on bad lending practices, "it's more complicated than that" because of the rise of complex derivative securities, Prof. Lo said. Bankers have made bad loans from time immemorial, he said. "It's hard to believe that in the last 10 years bankers have become greedier or stupider."
The rise of complex mortgage-backed securities opened the market to new entrants, such as pension funds that can buy only investment-grade instruments. As long as the pattern of defaults remained only loosely correlated among different groups of households, mortgage defaults by individual borrowers would not threaten the securities' integrity.
"Over the last couple of years, the default rates became very highly correlated," he said. "This high degree of correlation is something that none of the models captured."
Prof. Lo said his team expects to create new types of analytical models, using transaction behaviors that may be unrecognized today. The goal is to develop analytical systems that can assess the degree of stress and vulnerability facing the credit markets, he said. "We expect this very rich data set will contain all kinds of insights," he said.
He compared the current credit crunch to the 1998 collapse of the hedge fund Long Term Capital Management, and the financial crisis that succeeded it.
Such shocks could easily happen again, he said, so long as bankers continue to develop esoteric financial instruments that require new analytical tools for predicting their market impact.
The credit crisis began in mid-2007, Prof. Lo said, and "it will take at least a couple of years to sift through the wreckage." By then, the crisis may be resolved, but "we won't know the answers to any of those questions if we don't start studying them now," he said.
Initial findings may start to come in 18 to 24 months, and he expects the results to be published in academic journals and the popular press. The entire project will take two to five years.
B of A executives are to be deeply involved; some are even relocating to Boston with their families for the project's duration, Prof. Lo said.
B of A and MIT said in March that they would work together through the institute's Media Lab to create a Center for Future Banking. At the time B of A committed itself to give $3 million to $5 million a year to fund the five-year collaboration in which bankers and information technology researchers could jointly explore banking ideas.
"We're seeing more change now than in the past 100 years altogether," said Jeff Carter, the B of A executive who is heading the bank's effort to establish the center and who is working full-time at the Media Lab.
Since its establishment in 1985, the Media Lab has been involved in technological breakthroughs from the development of early Web browsers to "e-ink," which made possible low-power digital readers.
Mr. Carter said similar innovation could apply to banking, as technology increases its role in all aspects of life, from basic banking to social networking.
As an example of change's acceleration, he said, it took 70 months for the financial management software Quicken to attract 1 million users, but the auction site eBay achieved that milestone in 30 months, the social networking site Facebook in 11 months, and a Facebook feature, "iLike," in three days.
"You see changes in how consumers want to be served by their banks. You see changes in how consumers want to be participatory, and you see changes in how consumers want to think about information," Mr. Carter said.
Though the company is only now taking its first steps with MIT, he predicted the collaboration would have a transformative effect on how B of A does business.
"We expect we will innovate new business models," he said.
The ripple effects could benefit not only his company but also the entire industry, he said. For instance, he said, the intersection of issues such as mobility, identity, privacy, and payments has created a need for B of A to find new ways to cooperate with other banks against fraud and on other topics that affect all banks.
Though he acknowledged that some of these ambitions sound grand and the road map vague, he said, "I don't think these goals are too lofty for a franchise as large as Bank of America."
Frank Moss, the director of the Media Lab, said the researchers and bankers are sketching out specific projects, starting with questions as basic as branch design and function. For example, the group is wondering whether customers who come to a branch to check their financial health might also want to evaluate their physical health, perhaps by making use of in-branch blood pressure cuffs or advice on health insurance.
The B of A executives have also shown interest in a device the lab is developing to read people's emotions, based on cues in their facial expression or tone of voice, he said. Though the machine was originally designed to help people with autism read social cues, "tellers could use that to understand the feelings of their customers. Bank managers could use it to understand the feelings of their tellers," he said.
The bankers and the scholars are only now becoming acquainted with each other, and are starting to discuss the ideas that they plan to pursue over the next several years, he said.
"I expect we'll see new topics for research over the next four to five years that we can't even imagine today," he said. "We look for innovations that will really change the game. We're not here to polish the faucets."
