Finance Security in the Age of the Neobank

By Sam Easter

Brian Johnson is the CEO of Choice Financial. He’s been with the company since 1999 – just as the age of the internet was dawning –and he’s been CEO since 2011. That’s enough time to watch an awful lot of change unfold.

Case in point: fewer than five years ago, Johnson said, Choice’s total assets were somewhere around $600 million. Now it’s surpassed $2.5 billion, he said, a surge in scale helping them compete in a banking world transformed by the last two decades – and one that continues to shift under everyone’s feet.

There are plenty of reasons for a business to push boundaries and conquer new lands, but for banks in particular, the drive to survive is just as important. As Johnson points out, Choice’s growing scale helps them afford the kinds of technology services that help them operate online, where the advent of the smartphone is allowing mobile banks – nimble operators seeded with venture capital and unencumbered by brick-and-mortar buildings – to nip at traditional banks’ heels.

“If we were just along Interstate 29 or back up in just northeast North Dakota, we couldn’t have done the things in this technology space or fintech partnerships, because the economics of it just don’t work,” Johnson said, pointing out Choice’s expansion into Dickinson in the west and into the Twin Cities in the southeast. It’s helped them with “six or seven” partnerships with financial technology groups, one of which Johnson said is in Australia.

“It’s the same as having a half a million dollar combine and a $300,000 tractor and trying to farm (only) 500 acres,” he added. “Those economics don’t work at that point in time, right?”

The total number of chartered, U.S. commercial banks has been steadily falling for decades. But the number of American brick-andmortar bank branches has only started falling in the late 2000s. Julie Stackhouse, an executive vice president with the St. Louis Federal Reserve, said in a 2018 brief that the phenomenon is tightly bound up in both shockwaves from the 2008 financial crisis as well as shifts in consumer preference.

The latter is unfolding as a mass migration to the digital world, where customers can find their bank online or through a smartphone app. Already, there’s an army of exactly those kinds of apps that have no brick-and-mortar locations at all. Companies like MoneyLion, with millions of users on its app, are unbound from the pesky, dayto-day expenses of running physical locations, and they’re growing in a remarkable way. A recent A.T. Kearney analysis claims that “neobanks” – the term for the nimble start-ups free from corporeal concerns – have grown their European customer base by 15 million since 2011, while traditional retail banks have dropped 2 million customers in the same span.

“Although it is unlikely that the U.S. will end up resembling other countries with relatively few bank charters, it seems certain that consumers and businesses will increasingly access services with technology, no matter the size or location of bank offices,” Stackhouse wrote.

Dan Flaningan, chief strategy officer at Bremer Bank, points out that these changes are unfolding alongside an analogous change in the retail market. Amazon, for example, has taught customers that they can press a few buttons from a phone or home computer, and that a box with whatever they’ve ordered will soon appear on their doorstep. That’s raising the bar in banking, too.

Flaningan references the common movie sequence where the hero applies for a loan at a brick-and mortar building, makes a heartfelt case to a bank official, but winds up with a big red ‘denied’ stamp across their paperwork. Those days – when banks could rely on customers coming to them, creating a kind of home-court, analog-world advantage – are eroding, he said.

“We have preferences changing,” Flaningan said. “And I think what’s important for the industry as well is that we’re now being held to a different standard, just financial services in general.”

In the upper Midwest, banks are already adapting to the reality of a brave new world – not only because of the rise of the neobank, but because the internet is forcing them to build new digital infrastructures.

Jessica Ebeling, an executive vice president with Gate City Bank, said branches have been outfitted with a palm-scanning device that tracks vein structure in the hand and lets customers seamlessly bring up their account information. The only thing more secure, Ebeling said, would be eye-scanning, though that’s something perhaps a bit more invasive than the average customer would prefer – illustrating the increasingly futuristic tug-of-war banks must manage between security and customer experience.

By the same token, banks’ own cybersecurity measures have grown to become increasingly important. The Center for Strategic and International Studies keeps a lengthy list of “significant cyber incidents” in recent years, among them numerous attacks on banks, including an April incident against British financial and government networks, undertaken by Iranian hackers. The threat is real and ever-present.

Johnson points out that in his near-decade tenure as Choice’s CEO, those kinds of matters were “touched on once in a while.” Nowadays, though, it dominates the boardroom all the time. The same is true at Alerus Financial, where Karna Loyland, director of deposits, points out that she’d never thought she’d be worried about Russian hackers coming after her customers.

“I guess it kind of goes back to the initial question of being a small bank in the upper Midwest,” she said. “That doesn’t make us any safer in terms of where the threats come from.”

But there’s one key advantage that banks still feel they have above many neobanks: face-to-face discussions with customers. Officials at upper Midwest banks point out that it’s far easier to have a conversation about a big financial decision with someone from your own community whose hand you can shake, instead of having a conversation through a web app or on the phone.

“To me it’s one of the most exciting times in finance, really,” said Chris Moen, lead financial guide with Alerus. “Because while there are all these changes, and things are going more digital, it also provides our clients with probably much better service and experience than they maybe ever had in the past, because everything’s faster and more seamless.”