The combination of digitization (Social, Mobile, Analytics, Cloud), globalization (Rise of the Rest) and demographics (Millenial Digital Natives) creates a shift in the Financial Services Stack akin to the transformation that happened when the PC stack replaced mainframes. We moved then from vertical integration (mainframe vendors controlled the whole stack) to horizontal layers (Intel, Microsoft, Applications, PC Manufacturers).

Now we are moving from vertically integrated banks that control the whole stack to a horizontal stack with services at the application layer currently controlled by born-digital ventures in areas such as Lending, Payments, Trade Finance, Foreign Exchange and Wealth Management.

This is fundamentally different from the first wave of Emergent Fintech, which created a lead flow engine for banks by adding a UX on top of existing bank services. Those services (such as Simple) were non-threatening to Banks and made easy acquisition targets.

Both Banks and Traditional Fintech vendors to those banks will face wrenching change to adapt to this big shift in the financial services stack.

Traditional Fintech vendors face a hard grind in this environment. It is really hard to sell to middle management when an industry is going through this kind of “transform or die” change. Top management at the banks keep to a message that it is “business as usual”, while issuing orders to cut costs and squeeze vendors. These vendors may find themselves deep into an expensive sales cycle, interacting with management that is sincerely committed to acquiring a new system because they are being told that it is “business as usual”. Then, one day. both the vendor’s rep and the buyer’s rep wake up to hear that the whole division/unit is “no longer core”.

Traditional Fintech vendors will have to either move up the stack or down the stack.

Moving up the stack means becoming a trusted adviser at Board level, making change happen from strategy down to code. There are already very strong vendors such as Accenture and IBM in this rarified air, so it is hard to break in here.

Moving down the stack is equally hard because you have to become the disrupter in a market you are already in, with a 10x better, faster, cheaper solution. Banks will still need systems to “keep the lights on”, so will welcome vendors who offer the same as they have now for much less money as long as the switch is easy to implement. However this is hard to do; vendors have to first find a 10x technology advantage and then, even harder, disrupt their own cash flows. The Innovators Dilemma is always a tough one.

Vendors that don’t make either move – up or down the stack – will be “rolled up” into tech conglomerates and the product will slowly fade away.

Banks that do not change at a fundamental level risk becoming “data centers with fancy lobbies”.

Banks that do not transform at a radical level risk becoming a commodity product with high costs in a market with low cost digital-first alternatives. That is a recipe for declining profitability.

The VC community has already woken up to the massive opportunities at the application layer of the financial services stack, to create category-defining ventures in areas such as Lending, Payments, Trade Finance, Foreign Exchange and Wealth Management.

Many banks will thrive by partnering with the born-digital startups that become dominant in an area of the application stack that they consider non-core.

These banks will leverage their brand, balance sheet strength and low cost of capital to combine products to deliver new experiences for their customers.

These biz dev partnerships will be driven initially by the born-digital startups via APIs. However in the second phase we may see some Banks seize the User Experience challenge to create a whole wave of new consumer-facing services that use data and services from the middle layer via APIs.

Community Banks and Credit Unions may thrive in this new environment because they are used to outsourcing their IT and partnering to deliver services; they see their core competency being their local brand and customer relationships and relationships are the one thing that does not become commoditized.

A few mega banks will try to own the whole stack. However even the biggest banks are starting to exit business lines where they recognize that they cannot get a dominant market share. So these mega banks may be vertical in some markets and horizontal in others.

It is unlikely that we will see anything like a Wintel level dominance of the bottom of the stack. Regulators will be concerned about this and VCs will bring their lobbying power (including modern digital lobbying) to remind politicians not to kill the goose that lays the golden egg of innovation. So the bottom of the stack is likely to be open source and standards-based using technologies such as Blockchain and USSD.

The bottom of the stack in application terms will be deposit taking. This is so ripe for fraud, that you will have to be regulated as a Bank to get FDIC Insurance (or equivalent in other countries) and without that consumers won’t trust you.

The fundamental shift at the consumer level is:

“We don’t go to the Bank, the Bank comes to us.”

In all the earlier generations of technology we went to the Bank:

1.0 we went to the Bank’s branch.

2.0 we went to the Bank via an ATM.

3.0 we went to the Bank via their web site.

The current wave of technology means that Banks need to be there and relevant at the point when the consumer is considering a transaction (whatever that transaction might be – buying/selling a product/service, buying stocks and bonds, etc) on whatever device the user has at that moment in time. This experience has to be real time, event driven, powered by recommendations from personalized data, in context and mobile.

Context is king & queen

We already have the tools to do this that we call the Programmable Web. What is emerging now through a myriad of startups is the Programmable Bank.

This is an opportunity to seize the high ground at the top of the stack where consumers and business people interact with digital services.

At the top of the stack, User Experience is king & queen.