Over the past two decades, the fintech sector has radically transformed the world’s financial landscape. These digital solutions have made the industry more efficient, and changed how customers engage with financial products and services.

This impact has been particularly felt by smaller institutions, including local and regional banks, credit unions, brokerage firms, and wealth managers. 

These organizations play a key role in supporting the economic development of specific regions, bolstering the local community, and providing necessary services to certain client categories. For example, in the United States, most banks are community banks, according to the Federal Reserve, and provide much-needed access to credit to over 33.2 million small enterprises in the country. 

Despite this, they often lack the infrastructure or resources to develop and deliver new products. They also face considerable challenges with onboarding, compliance, and digitization.

Here is where startups come in, offering accessible and affordable solutions that level the playing field and increase the competitiveness of smaller financial institutions.

Challenges faced by small financial institutions

A big issue smaller institutions face when competing with financial giants is that the latter have enormous resources. This results in a tremendous disparity in budgets allocated to marketing, technology, and client acquisition. Also, large financial institutions can quickly incorporate new products and services into their lineup. 

This is especially true if they feel threatened. For example, when Wealthsimple, a Canadian fintech, started gaining a foothold in the turf of the country’s large banks, one of these — the Bank of Montréal — immediately launched a competing service, SmartFolio. Later, though, it partnered up with Wealthsimple, seeking to leverage the expertise of this emerging player in its favor. 

While the Wealthsimple case illustrates how some smaller financial organizations might fend off this competition due to a particular competitive advantage, this resource imbalance frequently tips the scales in favor of legacy banks or institutions. 

How fintech startups help smaller financial institutions address these challenges

With the emergence of myriad fintech startups, the aforementioned situation is changing. These fledgling companies are effectively filling many gaps, helping smaller financial institutions speed their digital transition. 

Enhancing Customer Experience

Some startups solve a basic problem, which is the lack of a digital infrastructure. For example, New York-based Narmi allows smaller, local financial institutions to optimize their processes by incorporating digital banking features, reducing the need for customers to visit a branch. 

This improvement to the customer experience can be further bolstered by digital tools such as AI-powered chatbots and virtual assistants. These allow clients to resolve queries independently, without waiting for a call center manager, and liberate resources that can be allocated elsewhere. 

Protecting Against Fraud, Money Laundering and Cyber Threats

Since limited budgets can restrict their ability to invest in robust cybersecurity measures, smaller financial institutions can face vulnerabilities to data breaches and phishing attacks. The same goes for fraud, since there might be gaps in internal controls that constrict the capacity for proper due diligence. 

Companies in this sphere include Symphony, which secures and automates workflows for financial services institutions, and Feedzai, which equips retail banks with tools to fight fraud and money laundering. 

Personalization

When acquiring new clients, personalized email campaigns can play a crucial role. While this goes beyond traditional fintech, the broader accessibility of these latest technologies enables smaller financial institutions to drastically improve their service and customer experience. 

Expanding Access to Financial Services for SMEs

Around the world, SMEs play a critical role in the economy. Yet, they are often overlooked. 

In Germany, for instance, small family businesses often receive subpar services from legacy banks, which leads to long wait times for credit approvals. This has spurred the growth of startups that, through technology, help business owners optimize their liquidity and cover potential cash flow gaps. 

By collaborating with or integrating technologies developed by these startups, small financial institutions can enhance their service offerings to SMEs, and gain traction in this segment that is often underserved by large banks. This positions them as innovative and swiftly responsive partners in the SME ecosystem.

Growing Their Product and Service Lineup

Small financial institutions can also leverage technology to expand their product and service lineup. For example, if a small brokerage wanted to integrate a robo-advisor, it would take a long time for the organization to have the necessary resources to do so. 

However, startups offering ready-made solutions enable institutions to do this now, and bypass the lengthy and expensive process of having to develop everything in-house. 

This is also the case with big data. Let’s say a community bank is managing a loan portfolio. By integrating a ready-made tool, the manager can better understand when to adjust their credit policy if certain categories of clients are defaulting. They can also receive early warnings about specific loans that might default, allowing for timely intervention. 

Future Trends

As we look towards the future, trends like artificial intelligence (AI) will accelerate the way financial institutions evolve in the digital realm. 

AI can be used for credit scoring, enhancing customer service, customizing client offerings based on their service usage, and more. Trends in client identification, such as face recognition, voice recognition, retinal scans, and fingerprint identification, will continue to gain traction.

Furthermore, banks will strive to maximize automation in compliance services, risk management, and regulatory reporting. 

To survive, smaller financial institutions must seek out advanced solutions in the sectors and services they want to excel in, integrate these solutions, and possibly customize them to serve their target customer segments and geographical regions, as well as to comply with regulatory requirements.

Final thoughts

Innovation is accelerating. We are in an exciting period where numerous tech companies enable financial services to be constructed like building blocks from a multitude of available applications. 

This is fantastic news for small financial institutions, which need to focus on maintaining an open, technological, and software infrastructure. This will reduce decision-making cycles and streamline processes, ultimately resulting in a more inclusive and developed financial system.