Anyone who has ever attended a five-year reunion knows a half-decade usually is not long enough to see much change.
But we've seen dramatic progress in the financial services industry over the past five years in developing, testing, and implementing strategies to reach the underbanked.
Five years ago consumers either had a good credit score or a bad one, and those who could not be scored were perceived as having bad credit. The general-purpose prepaid card market was in its infancy, and federal banking regulators were beginning a crackdown on payday lending.
Today there is a cottage industry of companies collecting nontraditional data to underwrite consumers with thin or no credit files. The prepaid card has come into its own as a potential checking account substitute for the unbanked. And there is tremendous innovation occurring in small-dollar, short-term credit products.
These and other innovations were demonstrated this month at the third annual Underbanked Financial Services Forum, produced by my organization and SourceMedia Inc., the parent company of American Banker. As nearly 450 industry participants reflected on the evolution of underbanked strategy, five important themes emerged.
Relationships. Financial services providers are learning that the best way to retain and attract underbanked consumers is to meet more than just their transactional needs.
The focus has shifted from "graduating" customers to providing them products and services to support their short-term and long-term needs.
Money transfer businesses are using customer remittance histories to underwrite mortgages. Bill payment providers are adding credit-building opportunities. Prepaid card providers are adding lines of credit.
Bundling a broader array of features and functions demonstrates that the whole is greater than the sum of the parts. Add-on features like saving and building credit are often designed primarily to engender loyalty and increase use of the core product, so they may not need to be highly profitable on their own.
Information. Building relationships requires a deep understanding of the consumer. That's why my organization led a first-of-its-kind research effort to divide these households into segments based on their attitudes and behaviors. The CFSI Underbanked Consumer Study, which identified eight segments, is meant to give the financial services industry the data to develop tailored strategies with higher likelihood of success.
Understanding the credit profiles of the underbanked is also critical. Contrary to popular opinion, these consumers are not necessarily subprime. Our study showed that 25% of them had a prime credit score or better, 33% were considered subprime or high-risk, and 42% had a thin or no credit file.
The huge number of consumers without a credit score explains the increased collecting and analyzing of nontraditional data sources, like utility and rental payments. Risk should not be determined by the lack of a credit score; more information is needed to make good decisions.
Form follows function. An assortment of companies have been built to serve the underbanked. Those poised for success are thinking first about what products, marketing, distribution, and risk management tools are needed and then structuring themselves around those needs.
Old labels don't apply as companies adopt entirely new business models combining the best aspects of banks, check cashers, retailers, and finance companies. Outdated regulatory frameworks make this work challenging, but structural considerations should not be the driver.
Credit terms. Ensuring sufficient access to credit is still important, especially given the current crunch. But with increasing industry innovation around small-value, short-term credit, access is beginning to take a back seat to quality.
The current wave of experimentation should help answer a series of critical questions about pricing, product structure, and underwriting. Is a 36% APR feasible? Does there need to be an amortization period longer than two weeks? How do lenders balance risk and efficiency?
Saving. In the past the focus has been on acquiring customers through transactional products and services. Today saving is coming back into style.
Economic conditions are helping to motivate the shift to savings products, but so is the recognition that consumers are not going to achieve long-term financial prosperity without saving.
No one has cracked the code on providing savings products profitably, but more companies are working on it. Some ideas include promoting savings bonds, using automation to encourage point-of-purchase saving, and building savings plans into loan products.
Five years ago few would have imagined the incredible progress in the transformation of the underbanked market into a legitimate, full-fledged business opportunity. If we think boldly, the next five years will bring even more dynamic change.