The long tail of banking

The most fashionable business idea around at the moment is the Long Tail, the brainwave of Chris Anderson, present Editor in Chief of Wired Magazine. His thesis is that in the modern economy we are seeing the substitution of the "hit" - the block buster product that caters well to some of the needs of the many - with the nicche products that cater to the needs of the few but do so very well. Using evidence from Amazon, Rhapsody (the music download service), EBay, Google Adwords and a number of other businesses, he shows that no matter how specialised the product, some consumers always buy. In other words, there is a market for everything, as long as you can match buyers and sellers in some way.

Chris demonstrates that these niche markets are very, very profitable if you have enough of them and can get to enough customers. According to Anderson, 25% of Amazon's revenue comes from products which are not available anywhere except in its on-line store. And the percentage is growing quickly. These are products that might sell only 10 or so units a year, but Amazon has hundreds of thousands of them.

Colin Henderson, who runs the Bankwatch blog, suggests the following:

In the Bank space, this sounds like, ING, HSBCdirect, Egg etc.  If that is the case this would explain the demise of Egg, mbanx, Wingspan, for trying to leave the long tail, and join the short bit with the big guys. Up there the benefit of the cheap scale and low costs are lost

But whilst Colin is probably right, I can't help wondering if the long tail opportunity for banks is rather more substantial than manufacturing product for niche customer segments.

Ebay, for example, carries many millions of items of stock, and none of them are manufactured or inventoried by the company. Its role in the long tail of retail is to match consumers and sellers. For this service, it attracts a commission on the match up, and then through PayPal it attracts a commission on the payment. In case you've not been following, the profit last quarter of these enterprises was $1.18 Billion USD. By comparison, Citigroup worldwide earned $5.27 Billion USD in Q2.

Is it possible that the long tail opportunity for banks is not so much in manufacturing niche products, but in providing a matching service for buyers and sellers of financial services? Here are some interesting cases:

• Australian lender Aussie Home loans started out as a lender manufacturing mortgages, but quickly started to act as a broker as well, introducing customers to its competitors and attracting hefty trailing commissions. It's not publicly traded so actual results aren't known, but the monitor site Hitwise suggests that clicks to Aussie could be growing 20% a year at least.
• MoneySupermarket is a mall for financial services. At the moment, this is basically a price comparison and introductions site, but the interesting thing is that you can, for example, get information - and the ability to apply - for up to 4000 different current accounts, just in the UK alone. 90% of its revenues come from introduction fees.
• Subprime lending has been been the fastest growing segment of the US mortgage market for some years. Total originations grew from $65 billion in 1995 to $332 billion in 2003, and apparently the growth has not slowed. What is a subprime mortgage? One that caters to a specific niche of customer that can't get a loan from one of the big lenders (who make their one size fits all products to serve a mass market - a hit in all but name). Where do you get one? From a matching service that accepts a trailing commission for the introduction - a broker.

Its not hard to imagine that a bank faced with a finite number of profitable customers (those who take a large number of its hit products) might, at some point, hit a wall where it simply can't sell any more in market. The signs of this are already evident in some geographies I've visited, where the primary focus of marketing is to create churn. The idea is to get someone else's productive customers, since there aren't any unbanked customers left. At least, not any profitable ones.

What is the obvious response? Provide products which are more tailored, which meet more of the customers requirements. In other words, expand into a niche. Niches are long tail territory. And niche products might be profitable down, as well as up, the customer value curve.

Of course, since it is impossible for a bank to offer every product to every customer in every niche, it will need to be selling the products of other institutions. That's what Amazon does with books, ebay with retail, and iTunes with music.

So the chief issue for a bank trying to be a long tail business will be how effectively it is able to add products to inventory, and how it can keep its costs down managing them.  Not insurmountable challenges, but ones that will require some effort. As Guy Kawasaki says in his post on the long tail, to be sucessful you have to have near zero costs to add product, near zero costs to support product, near zero costs to market product, instantanous fulfilment, and undemanding producers. A tall order, especially the latter if you're dealing with banks.

But if Amazon is anything to go by, there might be 25% more revenue available to an institution. And that's a lot of money.

Comments

[Colin]

RE: "I can't help wondering if the long tail opportunity for banks is rather more substantial than manufacturing product for niche customer segments"

I think this is a key point. 10 years ago someone (Forrester ?) coined the phrase "Open finance" to denote the idea of selling others' products. The idea was that distribution through internet was so disruptive, that unless you could offer various alernatives to customers, your offer would be immediately discounted.

I think that Open Finance is coming to pass now. Products such as mortgages particularly are so commoditised, that there is little loyalty associated with the product. The loyalty tends to lie with the service, speed, convenience etc, and those attributes are all distribution related, not product related.

[lieben]

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