How will Covid-19 affect virtual banks?

Written by || March 04 2020

The novel coronavirus outbreak is crimping global business as people avoid travel and even going out in public. The sharp contraction in business activity augurs ill prospects for the financial industry. Banks are not optimistic about their first quarter results. If the virus isn't contained soon, the second quarter could be even worse.

For the nascent virtual banking segment, Covid-19 is a double-edged sword. On the one hand, e-commerce demand remains strong thus far. Consumers still need to buy essential everyday items. If they are hesitant about visiting a physical store, the best option is to make the purchases online. In the short term, that means a rise in online transactions and in many cases the use of digital wallets.

In the long run, virtual banks could make a stronger case for challenging incumbents' branch-heavy traditional model. Thus far, the main reasons given for going branchless are to reduce costs and boost operational efficiency. Now there's a new and compelling reason: It's safer from a public health standpoint.

Once Covid-19 is contained, public fear about the contagion will subside, and people will almost certainly be less hesitant about gathering in public places. But the outbreak could make a lasting impact on an industry in which pressure to digitize has already been strong for many years.

At the same time, the novel coronavirus's negative effect on business sentiment may slow the global expansion of the most audacious cash-burning virtual banks. Take Revolut as an example. The UK-based neobank recently tripled its valuation to US$5.5 billion. That may sound impressive - until we consider that its executives had previously targeted up to US$10 billion.

Travel restrictions and concerns about infection will make it harder for Revolut to expand in the U.S. and Japan, which it had planned to do this year. Japan is teetering on the brink of a major outbreak by the estimates of many health professionals. The U.S. is also seeing a steady upward tick in cases.

Should the Covid-19 prove hard to contain, the global economy could fall into recession. "If people are able to spread it outside of the flu season, then this has legs through the summer and you're absolutely looking at a recession globally," Kevin Hassett, a former White House economist, told CNN in a February 28 interview.

Mark Zandi, Moody’s Analytics chief economist, reckons there is a 40% possibility of a U.S. recession in the first half of the year, double his previous forecast of 20%.

A recession would likely accentuate investor wariness with challenger banks. Depending on the severity of the downturn, there might even be a day of reckoning for their typical business model, which emphasizes the development of a large customer base and geographic network ahead of profitability.