Why Are Digital Banks and Fintechs Dominating New Checking Accounts?

Hi, and welcome back to the What's Going On in Banking podcast. I'm Ron Shevlin, chief research officer at Cornerstone Advisors and author of the FinTech Snark Tank blog on Forbes.

When we started this podcast, we did not want it to be a talk-show-style podcast where people simply came on to shoot the breeze. We wanted it to respond to what's going on in banking and provide the “so what” behind the news.

So far, we've focused on a number of regulatory developments and news items. I don't want to be so presumptuous as to say that we at Cornerstone are creating the news, but we did recently conduct a research study that I think warrants some attention here.

We surveyed consumers and compared the results with a similar survey we conducted three years ago, in the middle of 2020, when the pandemic first hit. We looked at where consumers were opening their checking accounts.

Back in mid-2020, we found two things. First, the mega banks, including JPMorgan Chase, Bank of America, Wells Fargo, and Citibank, were dominating checking-account-opening activity. Second, we were already seeing a trend toward digital banks and fintechs, which had captured a significant share of new account openings between 2017 and 2020.

Over the past three years, I've had a lot of people ask whether we were ever going to update that data. We finally did at the end of June, and the results were very different.

First, digital banks and fintechs are absolutely dominating new checking-account openings. We grouped digital banks and fintechs together, and they captured nearly half of all new checking accounts opened so far in 2023.

That growth is coming predominantly at the expense of the large banks. The mega banks' share dropped from 24% in 2020 to 17% in 2023. Regional banks' share dropped from 27% to 21%.

Back in 2020, the regional and mega banks together were capturing about half the market. Today, their combined share is down to 38%, while digital banks and fintechs have increased from 36% to 47%.

Even within that digital-bank and fintech segment, however, the market is being dominated by a relatively small handful of firms. Chime and PayPal account for more than 40% of the digital-bank and fintech share. If you add Square and SoFi, those companies dominate the category.

I think it's also important to talk about why this is happening. To help with that, I want to bring in today's guest, Alex Johnson, author of the FinTech Takes newsletter. I've known Alex for about 15 years. He's a former colleague of mine and definitely one of the leading fintech theorists and influencers in the space.

Alex, looking at these numbers and these changes, I have two questions. First, do you buy it? Do you believe this is really happening? And if so, what do you think is going on?

Thanks for having me on. I do buy the data. I think it accurately represents the shift that's been happening.

For context, though, it's important to emphasize that this is about new account openings. It's not necessarily representative of overall market share or where all the deposits in financial services are sitting. Mega banks and regional banks are still in a very strong position there.

But when we look at new account openings and growth, I do buy the data. One of the pieces of information you included in your article was that 72% of these new accounts were opened by Gen Z or millennials. So younger consumers are driving much of this growth, and a majority of that growth is going toward digital banks.

The question of what's driving it is especially interesting when you contrast the situation with five or 10 years ago.

At that time, the discussion around new market entrants was that they offered a much more convenient account-opening experience. Banks were making people come into a branch, sign a signature card, or jump through a number of hoops. Even when they offered online applications, those applications were often clunky.

Digital banks, by contrast, offered a streamlined and convenient experience. That was a real point of differentiation.

Fast-forward to today, and I don't think we can say that's what's driving the growth anymore. Excluding some smaller community banks and credit unions that may still be behind the curve, all of the large regional banks, super-regional banks, and mega banks now offer digital account opening.

You can quibble with the details of some of those experiences, but they're broadly comparable to what fintech companies and digital banks offer. So digital account opening alone is not what is driving this growth.

To me, the more interesting question is: what are these digital banks offering that is different enough to attract so many consumers?

I'm with you 100%. The digital account-opening vendors probably won't love hearing that because many of them have positioned themselves as the source of growth. I wouldn't quite call digital account opening table stakes, but I do think the more important difference now is the product itself.

I should also be transparent about the question we asked in the survey. First, we asked consumers when they last opened a checking account. Then we asked who they opened it with, and we gave them choices such as PayPal, Square, SoFi, and other providers.

That raises a question: is Square's Cash App really a checking account? Does PayPal really offer a checking account? I don't even know that those labels matter.

What's important is what consumers perceive. We asked them a question, and they gave us the answer. They think Cash App is a checking account. They think a PayPal account is a checking account.

What we're seeing is a blending of payment functionality with accounts that store money. With something like Cash App, you can also invest, make peer-to-peer payments, earn rewards, prepare taxes, and use other features. I'm not even sure what you call it anymore.

That's where I think banks need to take the lesson. This is not simply about digital account opening. It's about the fundamental product itself.

I totally agree. One of the things fintech companies have done very smartly is recognize that if they compete on the exact same ground as traditional banks, there is no real reason for a customer to choose them.

If all you're offering is a checking account where someone can log in, check balances, review transactions, deposit checks, pay bills, and receive direct deposit, then there is no compelling advantage, especially now that the digital experience has become more comparable.

So fintech companies blended together products that used to be separate into one unified experience.

A simple example is the way banks continue to treat checking and savings accounts as fundamentally separate products. From a customer's perspective, they're really just different pots of money that need to be adjusted over time depending on expenses, savings goals, and risk tolerance.

Younger consumers in particular don't necessarily want to think in terms of transferring money from Account A to Account B through a slow, formal process. They want to think about all of their money together and optimize it toward different goals.

That includes money they need immediately, money they're trying not to touch, and money they're willing to invest with a little more risk.

That's where services such as Acorns come in, rounding up purchases and investing the difference. All of these capabilities are blending into something that I don't really think we can call a traditional checking account.

When banks argue that PayPal technically doesn't offer a checking account because of the underlying product structure, it doesn't really matter. If a customer can use direct deposit and accomplish the financial tasks they need to accomplish, then functionally, it's a bank account to them.

That's what we're trying to measure: the shift in usage of these different accounts.

That brings up another part of the survey. We also asked consumers who they consider their primary checking-account provider.

There have been big shifts over the past three years. In 2020, about 12% of Gen Zers and millennials said that a digital bank, neobank, or fintech was their primary checking-account provider. That percentage has roughly tripled to about 36%.

What I also found interesting is that the percentage increased among Gen Xers and baby boomers too. Among Gen Xers, it went from 8% to 28%. Among baby boomers, it went from 4% to 11%.

Even us old folks are getting into the act.

The question of what makes something your primary checking-account provider is really interesting, because you also pointed out that a majority of consumers who opened these new accounts already had at least one other checking account.

You've talked a lot about how consumers now “accessorize” with multiple accounts for different purposes.

But I think there has been a real shift over the past three years. A few years ago, fintech and digital banking were often treated as something experimental. Maybe you saw an ad for SoFi or noticed Chime's logo on a basketball jersey and decided to open an account just to see what it was about.

There's a big difference between that kind of experimentation and saying, “No, this is my primary checking-account provider.”

For Gen Xers and baby boomers in particular, that should be concerning to traditional banks and credit unions. It's one thing to experiment with a fintech. It's another to trust it enough to call it your primary account provider.

That indicates a level of trust and comfort with the product. It may also suggest that consumers now view these capabilities as the baseline for what a bank account should do.

Do you have a sense of how primary-account status is tied to things such as direct deposit, account balances, or which account is used most often for transactions?

We asked about that a while back, although I didn't include it in the most recent survey. What I remember is that there wasn't one single factor that stood out definitively.

Direct deposit was important, but there's a causality issue. Something had to cause the consumer to move their direct deposit in the first place. Other people pointed to tools, personal financial management features, or simply the level of engagement.

There wasn't one thing that explained it all.

Another thing I wanted to ask you about is the interest-rate environment. That's very different in 2023 from prior years.

How much of this shift toward digital banks and fintechs is being influenced by interest rates? Are they buying new business with higher rates? And if traditional banks simply raised their rates, could they win some of that business back?

My advice to a bank or credit union executive would be: don't assume that raising rates alone is going to buy these customers back.

I don't think there's a huge connection between this shift at the checking-account level and rising interest rates. I think it has much more to do with product utility and brand.

The fintech companies have spent a lot of money on marketing, and that's obviously part of it. But most of them do not primarily compete on interest rate.

Some have added savings accounts, but even those products are not always particularly high-yield. Cash App, for example, added savings functionality that is more focused on making saving automatic and disciplined than on paying a very high interest rate.

Chime doesn't really compete by paying high interest on deposits either. That's not the game they're playing.

The growth of Chime, PayPal, and Square seems disconnected from the banks and other providers trying to compete primarily on rates.

Younger consumers also tend to have less money to move around, which reduces the value of rate shopping. You pointed out that much of the growth among digital providers is happening among less affluent consumers. Those consumers may simply not have enough money sitting in deposits for rate differences to drive behavior.

Another thing I want your thoughts on is what's happening within the fintech space itself.

The data tells me that fintechs and digital banks have captured a large share of growth, but that share is concentrated among a relatively small group of companies: Chime, PayPal, Square, and SoFi, with Varo and Current perhaps in the next tier.

Is that a bad sign for the larger group of neobanks and challenger banks that have emerged?

I definitely think it is. The biggest providers tend to win. We see that in banking, where the big fish eat the small fish, and I think the same thing is happening in fintech.

A few neobanks and digital banks have reached real scale and broad consumer awareness. SoFi has a stadium in Los Angeles with its name on it. Chime spends heavily on marketing. Cash App has done a great job with viral campaigns.

Those companies now have enough brand awareness to compete with almost any traditional bank in the U.S.

Smaller neobanks face a very different challenge. They're operating without the same scale or brand awareness, much like a de novo bank trying to compete with JPMorgan Chase.

The other thing that's interesting is that the four biggest companies you mentioned are all somewhat different from one another.

SoFi is focused on younger consumers moving toward the near-affluent or mass-affluent segment. Chime and Cash App tend to focus more on lower-income consumers and offer something closer to a super-app experience.

PayPal surprised me a little because, from the outside, the company can look somewhat fragmented. It has PayPal, Venmo, and multiple ambitions across the payments space.

All four companies have brand ubiquity in common, but they serve somewhat different customer segments.

Were you surprised those were the top four?

Not really, because the survey reflects consumers' own perception of what counts as a checking or payment account.

I agree with your broader pessimism about challenger banks, but I'm still holding on to the belief that there is room for an affinity strategy.

There has been some negative news in the space. Greenwood acquired the assets of Kinly. Daylight shut down. And on the larger end, Silicon Valley Bank's problems were blamed in part on concentration.

So there is a negative narrative around highly focused affinity strategies.

I'm still not willing to give up on the idea. I look at a company such as Panacea Financial, which focuses on young physicians. They're doing well because they have a strong niche and because they also have lending products.

It isn't simply an interchange-driven strategy. That's always been one of my concerns with Chime. I still don't see enough diversification in the revenue stream, although they may prove me wrong.

I still think there is room for niche-focused institutions that can remain profitable even without massive account numbers.

But it takes more than a checking account or payment account. Unless you're PayPal or Square and have tens of millions of active accounts, there are simply too many payment choices.

You need something else the customer is willing to pay for or value enough to remain engaged.

That touches on another issue. These digital banks are acquiring younger consumers, which is a great start. But the real goal is to grow with those consumers, retain them, and increase your share of their financial lives over time.

That's a challenge even for the big names we've discussed.

SoFi, in particular, stood out to me as the big winner after reading your article. They've grown their share tremendously, but they also have a bank charter.

That means they have the ability to evolve into a full-service financial-services provider for these younger customers. They already offer a number of products and can continue adding more.

Their deposits can fund their lending, and they can build out the economics of a traditional large bank.

Chime is in a different position. They've built a great brand and a compelling product, and I think they understand their customer segment better than many banks understand any segment.

But growing beyond that core product will be more difficult. We've heard for years that Chime is close to entering lending. Lending to that customer base could be challenging, especially in the current environment.

They also don't have a bank charter today. Maybe they'll eventually buy a bank or apply for a de novo charter, but they don't have one now.

Their customers are eventually going to need credit cards, mortgages, auto loans, student-loan refinancing, and other products. I don't know whether Chime will be able to provide those products profitably.

That's the big unanswered question.

Totally agree.

Alex, we're out of time, so I really appreciate you coming on the What's Going On in Banking podcast.

And to everyone listening, thank you for joining us. I hope to see you on the next episode of What's Going On in Banking.