Kristin Moyer

Doug McKibben recently published a research note on social networking and commercial banking (paying Gartner clients please see “Social Networking for Commercial Banking: An Opportunity and a Challenge for Banks”).

Social networking, online chat, blogs and mobile services are among the leading-edge communication and networking technology phenomenon that have become increasingly embedded in the fabric of daily life for many people in terms of peer-to-peer (P2P) interaction and, to a certain extent, for retail banking.

Recent Gartner survey data indicates that some of these capabilities also have gained a foothold with commercial customers in several regions.

The challenge for banks is now twofold: (1) to make these capabilities an integral part of their services where wanted, and (2) to determine how to leverage these services to increase bank revenue with commercial customers.

Red deer still refuse to cross the border between Germany and the Czech Republic (see “Deep in the Forest, Bambi Remains the Cold War’s Last Prisoner,” Wall Street Journal).  During the Cold War, a high electric fence and barbed wire fence separated West Germany and Czechoslovakia.  This would at times sever the heads of deer.

The fence is gone, but red deer still don’t cross where the fence used to be.  Apparently all that’s there now is a path in the woods as part of a conservation area.  A couple of males have crossed the border (and then stayed there), but females won’t go near it.  From the article I read, deer have traditional trails that get passed through generations – a kind of herd, collective memory.

Maybe I’ve had too much Diet Coke today, but I see some parallels for the banking industry.  There’s much talk about the new normal today.  Our fear, as a banking and investment services analyst team, is that there will be no new normal in banking.

The deer along the old iron curtain are not changing, and it limits them.  Rather than going out and finding new territory, they are staying where they are.  This is an old normal.

In banking, transformation has become an overused way to describe even surface-level efficiency gains (Gartner clients, see “Banking Transformation Is Now So Overhyped That It’s Reinforcing the ‘Old Normal“).  If that is all that happens, then there will be a return to the old normal (business as usual in banking) rather than a new normal.  I believe a new normal characterized by radical change is  needed for banks to survive as relevant players in the financial supply chain.

I spoke with someone in the industry recently that said something like 20%-30% of borrowers who are current on their mortgage at the time of modification later end up defaulting.  If a borrower has fallen behind on payments, the rate is more like 70%-80%.  Proactively pursuing borrowers in distress is a pre-delinquency management strategy, and it is gaining traction.

Loan portfolio management technologies (like predictive analytics, optimization and behavior modeling) are needed to identify who those distressed borrowers are.  That’s critical.  But then there’s another issue – effectively communicating with these borrowers.  This has been a real struggle for banks servicers because of high default volumes.  Call center hold times are in excess of 1 hour and call abandonment rates are 50%.  A really high rate of loan mods are also not going through because of missing paperwork (something like 80% according to some of the discussions I’ve been involved in).  How can servicers proactively pursue borrowers in distress?

One way can be through outbound voice automation technology.  But what about mobile alerts?  One of our clients raised this issue with me a few weeks ago.  If I was a borrower in distress, would I rather get a phone call from my bank saying, “We see that you are loading up the balance on your credit card.  Are you experiencing financial hardship?”  No, because I don’t like talking on the phone after work (probably because I’m on the phone a lot during business hours).  I also don’t really like talking to my bank, and certainly not my servicer.

What about getting a similar message through a mobile alert:  “The portfolio monitoring we do indicates that you may currently be in financial distress.  We would like to help.  Would you prefer to split your next payment?”  For me personally, this is much attractive.

Again, identifying who the distressed borrowers are, the degree of their distress, is critical or a bank/servicer will have a going out of business strategy.   But combining loan portfolio management with something like mobile alerts could help banks prevent default (and re-default) with some (clearly not all) borrowers, and therefore pending reduce credit loss.

Some IT vendors and banks are starting to think of PayPal and other non-bank providers as a friend rather than a foe. This is a good idea, and one which we have proposed 2 years now in our research (Gartner client access only):

• PayPal and Google Checkout Show the Way for Banks’ Payment Operations

• Nonbank Payment Institutions: A Threat and an Opportunity for Banks

• Banks’ Retail Payment Operations at a Tipping Point

Banks need to stop looking at non-bank payment providers as foes. When consumers work with PayPal outside of a banking relationship, the bank completely looses visibility of the customer relationship – and the customer isn’t thinking of the bank either. True, PayPal and others have hijacked Internet payments revenue away from banks. But the real danger for banks is that they loose relevance in the customer relationship and the financial supply chain.

The industry would do well to partner with PayPal and other non-bank payment providers, both to meet the needs of their customers (who want to work with PayPal, too) and to maintain the relationship with their customers (rather than losing site of what happens with payments outside their walls).

One of the most dramatic social changes in history is brewing according (see entire article in The Economist: “Go Forth and Multiple a Lot Less”). At some point in the next several years, the fertility rate of half of the world will be 2.1 or below. This is replacement level fertility, where people only have enough children to replace the population.

Iran is an example of the social change that comes through replacement fertility. In 1984, fertility rates were 7, but by 2006 they fell to 1.9 (and just 1.5 in Tehran). That is a huge amount of change in just 22 years. The riots in Iran this year showed the social change that comes lower fertility rates. According to The Economist, about 1/3 of the population is 15-29 years old – they are better educated than previous generations (something that happens with falling fertility rates) and therefore had different expectations than previous generations with regard to elections. The result – a major clash against traditionalists.

What is the impact on banking? Fewer potential customers than if fertility were above replacement level. But that’s not a bad thing. A “bulge” of working adults (which The Economist refers to as a “Goldilocks” generation) fuels economic growth. In 2008, for example, household savings in China reached almost 25% of GDP. It also enables more rapid accumulation of capital per head.

Where should banks look for the Goldilocks generation? In places many banks in established markets have recently exited: Asia, Latin America.

The implications for the environment, unfortunately, are bleaker (because richer countries pollute more). But I’m a banking analyst, so that’s a discussion to have over a pint sometime rather than here.

Predicts 2010 is hot off the presses (for paying Gartner clients): “Predicts 2010: Operational Technologies Present Threats and Opportunities in Banking and Investment Services.” IT leaders at banks and investment service firms should use this analysis to support their business and IT planning in 2010 and beyond, and to avoid wasted investments.

This year’s predictions for operational technologies in banking include a focus on:

• The fate of tier 3 and tier 4 US banks in light of more intensive regulatory and risk management requirements
• How adoption of an emerging technology could slash pending credit losses
• The alarmingly low adoption rate of holistic, enterprise risk management
• How not to invest in bank service hub initiatives.

When I first saw the announcement that Avaya was getting into mortgage mods, my first thought was honestly, “Another provider to jump on the bandwagon.” Then I thought again.

Proactive Outreach for Financial Services is an outbound contact solution that uses voice automation to determine whether or not a borrower qualifies for modification (previously it was more focused on collections). It also does proactive closed loop communication, for example to communicate the status of an application to a borrower or notify them of missing documentation (a huge challenge in modifications right now).

On the one hand, I’m not sure I’d personally want a voice automation program calling me up if I was worried about losing my home. On the other hand, mortgage servicers are overwhelmed by default volumes, particularly in light of HAMP (which Avaya refers to as “HAM” in its white paper). Avaya quotes some scary call center statistics…call hold times in excess of 1 hour, call abandonment rates of 50% and others.

This solution, while not perfect (given the emotional stress distressed borrowers are under), could help reach more borrowers and potentially alleviate call center jams and servicer capacity.  What this solution made me think of though, as well as some conversations I’ve recently had with clients, is that there are better ways to work with distressed borrowers than what the industry is currently doing.  For example, mobile alerts.  More on that soon.

Contrasted to credit card issuers and consumer lenders, mortgage servicers are being less aggressive with the use of predictive analytics, optimization and behavior modeling.  For one thing, mortgage servicers have fewer levers to use and less data to leverage in reducing loss compared to issuers of revolving credit.  The cost of servicing has also gone up due to high levels of distress, making it difficult for servicers to invest in new technologies.  And consumer focus on credit obligations have changed as a result of negative home equity, making mortgage a lower priority payment for consumers (source:  Effectively Managing Risk in the New Economy,” Equifax, April 2009).

Servicers are overwhelmed by volumes and often do not have the resources they need, both in terms of personnel and technology (due to the increasing costs of servicing).  For example, they lack technologies (such as loan portfolio management) to determine the best option for each loan in distress, whether that be loss mitigation, a short sale, a third party sale or foreclosure.  They have yet to adjust to their new role as “life coaches” (not just loan counselors focused on completing a task) in working with so many distressed borrowers.   Regulations, such as the Home Affordable Modification Plan (HAMP) in the US, have been challenging to implement and execute.

So why should the residential mortgage industry use loan portfolio management – now?

Loan portfolio management has been shown to reduce re-default and significantly improve average unpaid-principal-balance increase in net present value (NPV) from modifications using loan portfolio management (relative to nonoptimized loan modifications using general risk scores) from vendors such as Response Analytics (Distressed Portfolio Management and others).  Segmentation and clustering analysis supports optimal treatment strategies as well.  For example, First American CoreLogic (WillCap) provides cluster-driven treatment strategies that segments borrowers into more than 20 segments in order to reduce default rates, decrease losses and accomplish socio-political goals (for example, keeping borrowers in their homes and reducing foreclosures).

And preventing a customer from falling behind on payments may be the best course of all.  I spoke with someone in the industry today that said something like 20%-30% of borrowers who are current on their mortgage at the time of modification later end up defaulting.  If a borrower has fallen behind on payments, the rate is more like 70%-80%.  Pre-delinquency management is also a core capability of loan portfolio management.

Steve Leigh from the insurance team here –   I wanted to let everyone know that I along with two colleagues here at Gartner (Juergen Weiss and Stephen Forte), will be talking about social networking for insurance in our upcoming teleconference on November 6th.   It seems to me that there remain considerable questions about what social networking is, whether you can build a sound business case and the best strategies for creating a social network.  Insurers have not been able to successfully derive significant value from externally hosted social networks like Facebook and Linkedin other than to minimally participate in the conversation.  To really leverage social networking for employees, agents and customers, it is likely that they will need to invest in dedicated solutions which will help them to monitor usage, control content, and generate reports.

I would love to hear your thoughts on this topic, as well as invite you to the upcoming event.

In financial services, data has become the differentiator in payments.  Financial institutions struggle to differentiate with payment products, but they can differentiate by using data for value added purposes (for Gartner clients, please see Banks Must Invest in Payment Systems to Win Back Customer Trust, Payment Information Value-Added Services: The Cornerstone of Customer Loyalty and others).  Data is becoming more important in all areas of lending, both as a differentiator and as a tool of survival.  For example, loan level and property level data is needed to triage distressed loans and value asset-backed securities.

I saw a great example of a non-banking industry using data for value added purposes.  Rhode Island is tracking H1N1 through e-prescription data.

“Public health officials will receive de-identified prescription data along with ZIP codes and ages of patients to aid in the tracking and trending of flu outbreaks through the state (see the Information Week article here).”

Officials hope to achieve the following benefits by tracking e-prescription data:

• Tracking outbreaks by location (for example, schools hit particularly hard) and age
• Detect discrepancies in between doctor reports and drugs prescribed (which could trigger educational outreach on over-prescribing medications)
• Monitor availability of Tamiful and other antiviral medications to trigger the release of emergency stockpiles as needed.

Turning data into information – not easy, but more necessary than ever in financial services.