Despite advantages including cheaper operational costs and backing from tech firms with deep pockets, Hong Kong’s digital banks will face hurdles in turning a profit. These eight newcomers will have to operate at a loss for at least the next two years and some will likely fail, warns financial information and analytics firm S&P Global.

One challenge digital banks face is the high salary of banking professionals in Hong Kong and their thinner base of revenues to support this cost, said Fern Wang, a credit analyst at S&P Global Ratings. Lack of brand recognition is another challenge new entrants face that requires them to spend heavily on customer acquisition and marketing.

Not only that, but Hong Kong’s incumbent banks are also digitally competitive and have responded with enhanced digital offerings for their customers, indicating that competition in retail banking in Hong Kong is only going to get fiercer.

“Despite the inevitable cash burn and a high potential for failure, eight digital banks have already landed in Hong Kong,” Wang said. “Big incumbent banks want to test the business model should digital banking break out as a major service.”

The path to profitability

Currently, Hong Kong’s eight digital banks are offering loss-making interest rates to draw in customers and attract deposits. For example, Livi Bank started offering new clients a 3% interest rate for the first HK$50,000 they deposited when it began operating back in August 2020. That’s much higher than the 0.001% deposits interest rate offered by the incumbent banks, S&P Global notes.

In their first year of operation, all of them reported losing money. Ant Bank lost the least at HK$172 million while Standard Chartered-backed Mox Bank lost the most at HK$456 million, according to the banks’ respective annual reports.

A few have started to take the lead. At the end of 2020, ZA Bank, operated by a unit of online-only insurance firm ZhongAn, had accrued the most customer deposits at HK$6.04 billion (US$780 million), representing a 39% market share. ZA Bank was followed by Standard Chartered-backed Mox Bank at HK$5.2 billion (US$670 million) and accounting for 33% of the market.

As of May 2021, the two made up about 62% of the total 630,000 accounts opened at digital banks. ZA Bank had more than 300,000 customers, while Mox Bank had over 90,000 clients.

Some of the reasons for ZA Bank’s lead has been its early-mover’s advantage since it was the first to go live. The bank also offers very attractive promotional deposit rates and a more comprehensive product suite than competitors. This is thanks to the fact that it holds an insurance agency license through its affiliation with ZhongAn Insurance.

Meanwhile Mox Bank has managed to attract a relatively large deposit amount per account, with an average of HK$60,000 per account. It now plans to build on its strong start by establishing an ecosystem comprising services from its backers, which include telco HKT, Internet firm PCCW and travel-booking platform Trip.com.

The two leading digital banks predict that they could start breaking even by 2024 at the earliest, top executives from ZA Bank and Mox Bank told Bloomberg in May.

Wealth management as the next battleground

As Hong Kong’s digital banks continue to build up operations and roll out new products, a number of them are now venturing into wealth management after building up their customer base.

ZA Bank is applying for licenses from the Hong Kong Securities and Futures Commission to manage assets and engage in securities dealing and advisory, while WeLab Bank has partnered with a digital investment unit of Allianz SE to develop digital wealth management products, top executives told the South China Morning Post in August. Livi Bank and Mox Bank are also reportedly preparing for similar offerings, according to S&P Global.

Julie Chan, a Hong Kong-based partner with consultancy PwC, believes that Hong Kong could see the first wealth management product launched by a digital bank in early 2022.

“Virtual banks will continue to differentiate themselves from traditional banks based on enhanced customer experience and providing end-to-end digital solutions for access to wealth products, ease of interaction, client servicing, trading, account management,”

Chan said, quoted by S&P Global.

Robo-advisory services and solutions that automatically transfer a certain amount of savings into funds in regular intervals are options that Hong Kong’s digital banks could consider, said consultancy Quinlan and Associates.

“A lot of these should be automated and allow [customers] to have more meaningful conversation about how to generate a bit more return than leaving as deposits,” the firm said.

Featured image credit: Photo by Manson Yim on Unsplash