Marcus Sehr, global head of cash management financial institutions at Deutsche Bank, looks at the current transaction banking environment and the critical importance of partner selection.

To say that the past five to six years have been economically and commercially challenging is stating the obvious. In that time, we have witnessed the worst financial crisis since the Great Depression, encompassing the threat of collapse of financial institutions, bail-outs of banks by national governments, slumps in housing markets and prolonged unemployment. The crisis also played a major part in business failures, declining consumer wealth and a downturn in economic activity leading to global recession and contributing to the European debt crisis.

Economists have still not agreed as to whether we are emerging from the crisis or, indeed, at which stage we find ourselves. One thing is clear, however: we now operate in a world that is fundamentally different to that of 2007. Back then, for example, the key aim of central banks with regards to economic policy was to set interest rates – raising them to keep inflation low and cutting them when the economy was weak.

Since the crisis, the toolkit has expanded to include quantitative easing – shovelling money into the financial system in the hope that it will stimulate more spending – and addressing the liquidity needs of banks. Another pre-crisis feature was that financial regulation, for the large part, was conducted with a relatively light touch. Not anymore. Regulation will henceforth play a fundamental role in how banks conduct their business – and this also holds true for transaction banking.

Positive outlook

Despite all the negative rhetoric, positive signs have recently emerged from all corners of the globe. While Europe is still plagued with high unemployment and weak underlying growth, there are four factors in particular that show it is now heading in the right direction.

First, all countries in the eurozone have managed to reduce their deficits (some dramatically). Second, unit labour costs have now come down substantially in the eurozone’s peripheral countries. This is especially true for Ireland and Spain – making them more attractive as investment locations, and helping them to restore competitiveness as well as to provide jobs. Third, such peripheral countries have also seen a stabilisation of their banking systems. And finally, the European Central Bank balance sheet has started to shrink again, indicating a slow but promising return to normality.

The outlook for the US is even more optimistic. The housing market shows indications of an uptick, state and local budgets have largely been consolidated, and key sectors – such as the automotive industry – are on the road to recovery. In addition, the US is experiencing an energy revolution through new fracturing technology, which will open up huge oil and gas reserves – and potentially pave the way to energy independence.

Looking to Asia, more than 60% of global growth this year is expected to come from the region’s emerging markets – with China continuing its role as Asia’s growth engine. Such economic health has, in turn, had positive knock-on effects for markets elsewhere – in particular for the eurozone, as China’s largest trading partner, and the US, a major exporter of industrial equipment to the country. In fact, any economy that is plugged into China’s burgeoning import and export flows stands to benefit.

With regard to long-term trends, Asia’s expanding and increasingly wealthy middle class will spark further demand – fuel for both intra-regional and international trade flows. Furthermore, the growing number of small and medium-sized enterprises (SMEs) throughout Asia can only add to the region’s increasingly important position in global supply chains.

All of these developments bode well for the future – and for transaction banking, in particular. Indeed, a recent survey conducted by Boston Consulting Group estimated that transaction revenue pools will grow from $38.7bn in 2011 to $69.6bn in 2020 – with revenue pools for payments alone to more than double from $5.2bn to $13.5bn in the same period.

How important is the renminbi?

There is no denying China’s future, in the coming decades, as a major trading player – and its push for a more international role for its currency, the renminbi. Indeed, the renminbi has already taken a number of significant steps towards internationalisation, and this year the Australian dollar became the third currency to trade directly with the renminbi.

While this particular deal opens the door to improved price transparency and stronger economic ties between China and Australia – a trade relationship fuelled by Chinese demand for Australian commodities – the renminbi’s growing accessibility is still some way from posing a threat to US dollar dominance.

Certainly, the renminbi would need to be openly convertible with a whole range of currencies before it can be viewed seriously as an alternative reserve currency. Furthermore, the renminbi is a controlled currency (with a 1% variation to the US dollar) rather than free floating, meaning it remains some way off displacing either the US dollar or euro – which account for nearly 70% of the world’s commercial payments settlement volumes (according to Swift Watch) – as the world’s main currency. 

Services offered by global providers

Transaction banking wagon

As recent years have seen risk-averse financial institutions begin to seek alternative, more stable sources of revenue, transaction banking – and its reputation as a sustainable and relatively low-risk business – has moved into the spotlight. Additional factors such as low capital absorption and a relatively loyal client base have also contributed to the industry becoming more attractive in the eyes of the market.

That said, for many, realising the opportunities presented by this business line will be easier said than done. For example, while transaction banking is not capital – or risk-weighted asset – intensive, it does require significant levels of investment in technology. And with technology now a vital enabler in today’s truly globalised industry, such investment is required not just for the development of innovative electronic processing platforms, but also for ongoing maintenance, efficiency improvements, and adaptations in response to changing consumer needs and regulatory requirements. 

With margins being driven down by regulatory initiatives such as the Single Euro Payments Area, success in transaction banking is increasingly becoming a question of scale. The decision to buy, build or partner has always existed, but the latter option – partnership – is increasingly viewed as the most viable, if not the only, way to conduct business in today’s economic climate, and given the complexities of globalisation. As local and regional banks strive to support their SME clients in achieving their global ambitions, partnership with a global bank offers not only an international footprint but also the heavyweight technology and currency capabilities required.

Same old, same old?

Many local and regional banks know that partnering with global providers – such as Deutsche Bank – capable of doing the heavy lifting is a more commercially viable route to keeping up with clients’ evolving needs. This is nothing new. However, whereas in the past such providers were often selected based on pricing or reciprocity, the assessment criteria have changed with increased importance now being placed on long-term relationships and high standards of customer service, in addition to a commitment to innovation.  

First, innovation – a feature that, unfairly, is not always associated with the transaction banking industry but, if defined as bringing about ‘significant positive change’, then is, in fact, readily apparent. Indeed, Deutsche Bank has invested in technology to enable a 97% straight-through-processing (STP) rate, and is always looking to enhance end-to-end processing to achieve further efficiencies.

In the payments industry, innovation does not just equate to shiny new products; it is more about developing highly efficient end-to-end processes on robust platforms designed to generate long-term value for the client. For example, Deutsche Bank's Asia Accelerator solution has been developed to help clients optimise the use of their intraday liquidity, by addressing inefficiencies – incurred by different clearing time zones – in the settlement of intra-Asia’s high volume of euro and US dollar-denominated payments.

Customer care

Also taking on a heightened level of importance is the standard of customer service. Clients require truly customer-oriented service provided by trained professionals who speak the local language, are in the same time zone, and are familiar with market-specific business practices. While a full understanding of the product suite should be expected as standard, providing optimal service also means knowing how best these solutions can be adapted and integrated into clients’ legacy structures in order to more accurately meet their evolving needs.

In providing optimal service, the importance of in-house expertise should not be underestimated. In a challenging financial climate, a major shift in purchasing power and new regulatory initiatives serve to make international commerce even more complex. It is therefore vital to offer training as part of the education process to help staff understand and address current and future market and client challenges.

Certainly, as important as technological capabilities are, they must be used in conjunction with the personal touch. Even financial institutions able to self-clear will often select partners based on the ability to apply local expertise to transaction processing. While Deutsche Bank has achieved an STP rate of 97% – no bank will ever reach 100% – those remaining 3% of transactions must be treated with nothing less than the highest degree of professionalism. It is in this 3% that customer service will become apparent as not just a convenience factor, but a real differentiator.

Superior customer service is, after all, dependent on active bank-client dialogue – understanding, for example, that clients need clear management information systems to enable them to create strategies to drive down costs and inject operational efficiencies. Collecting such information helps in gaining a real awareness of the value of payments, and facilitates discussion about end pricing or the potential for tiered pricing to entice additional payment volumes.

Possessing timely information is also critical in the liquidity management space and, in particular, in intraday liquidity reporting, giving a real-time view of the bank’s global funding position. Here, again, banks must strive to innovate – with the demand for innovative solutions evident from the growing popularity for apps that offer real-time information on liquidity positions for across multiple subsidiaries, geographies and currencies. Leveraging new technology this way can provide far greater transparency and accuracy, to aid forecasting and investment decisions.

Commitment is indispensable

While innovation and customer service are more important than ever, the fundamental strength of a bank continues to underpin the provision of transaction banking services – even more so during periods of financial turbulence and uncertainty. Requests for proposals are placing greater emphasis on working with banks that have a strong and consistent credit rating, a solid balance sheet composition and a demonstrable ability to comply with new regulatory initiatives such as Basel III.

Certainly, financial institutions are seeking partners that will still be there in the long term. As some providers struggle with risk management issues, cost pressures or limited resources – and have had to adjust their coverage models as a result – others have even had to reduce their footprint by withdrawing from certain markets. The critical question many local and regional banks are asking themselves is: will my provider be there for me five years down the line? How are they proving their commitment?

It is the strong banks with a demonstrable commitment to long-term client relationships that will be the winners in the transaction banking space. With this in mind, financial institutions should select their partners very carefully – looking not only at pricing and/or reciprocity but also relationship management, financial strength, customer service, specialist expertise, information provision and innovation. As the market continues to react to new challenges and a changing environment, and transaction banking garners increasing attention thanks to its underlying relative stability, these criteria will be the defining issues in establishing and nurturing long-term bank-client partnerships, and realising the opportunities the “new normal” has to offer.

Marcus Sehr is global head of cash management financial institutions at Deutsche Bank.

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