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Pressures mounting on new players

Challenger banks beat big five but face tough tests

anarchy VirginBritain’s “challenger” banks are continuing to win a greater share of the market, with an increasing shift towards digital-only operations, says a new report.

The new banks have seen their pre-tax profits rise by £194 million while the the big five suffered a £5.6 billion fall.

However, analysis by KPMG in its report A New Landscape reveals that it will be an “increasingly difficult and fragmented journey” for the new banks.

The 8% surcharge on profits in excess of £25m “looks set to cost challengers dear”, says the report. If applied to 2015 it would have added an extra £70m to their overall tax bill.

It adds that recent buy-to-let changes are unlikely to be the Achilles heel of challenger banks but it indicates the tide is turning and goodwill towards challengers is waning.

The buy-to-let market is a significant contributor towards the overall profitability of the challenger banking sector, and recent changes to the BTL sector saw some challenger banks suffer a temporary drop in share price of up to 10%.

Aside from these issues, the challengers continue to outpace the bigger banks on several key measurements.

Challenger banks have increased lending by 32% compared to a 5% decline for the big five – Barclays, HSBC, Lloyds Bank, Royal Bank of Scotland and Santander.

While the big five face mounting cost pressures challenger banks are enjoying reduced or consistent cost-to-income ratios.

Return on equity for the smaller challengers topped 17% and 9.5% for the larger challengers, against 4.6% for the big high street banks.

Catherine Burnet, head of financial services for KPMG in Scotland, said: “Many challenger banks offer a high quality service while operating more efficiently than the big five, albeit in niche markets.

“This leaves them poised to take further market share in the year ahead. But, the challengers have grown up, and shouldn’t expect significant assistance from regulators or policymakers. Several will also begin to really realise both the benefits and difficulties that being a large listed company brings.

“I expect to see the divergence between large and small challengers widen. Several challenger banks have targeted profitable niches such as buy-to-let or specialist commercial lending but competition in these areas is reaching saturation so they will need to start widening their nets and working harder to compete with single-service fintech firms, such as payment companies or lending platforms.

“Small challengers and digital only banks are building a personalised, transparent and data rich banking environment, completely free from the restrictions of legacy systems and culture. But in a market where customer inertia is one of the most powerful forces, will they be different enough to reach scale?”

Challenger banks:

  • Larger Challengers: Clydesdale and Yorkshire Banking Group, Handelsbanken (UK division), Paragon, TSB, Virgin Money and Williams & Glyn.
  • Smaller Challengers: AIB (UK division), Aldermore, Close Brothers, Metro Bank, OneSavings Bank, Shawbrook Group and Secure Trust Bank.
  • The analysis does not include the supermarket banks.


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