Economy and Banking & Finance and Media & Marketing and Real Estate & Retail

Web rates get banks' attention: Some try to compete by boosting savings yields

May 14, 2007

In an effort to lure new customers, more traditional banks are beginning to emulate their Internet adversaries and offer online savings accounts boasting much higher annual yields.

Customers are increasingly turning to Internet banks because they offer highyield savings accounts that don't require massive balances.

First Internet Bank of Indiana, founded in 1998 by local tech entrepreneur David Becker as the first state-chartered Internetonly bank, has seen its assets grow to more than $530 million in less than a decade thanks to its higher-yield accounts.

For instance, First Internet offers a basic online savings account with an annual yield of 2.75 percent with no fee if the balance remains above $1,000. Its money market savings account offers a 3.9-percent yield if a $4,000 balance is kept.

A similar approach is working for London-based HSBC Direct, which has reported $7 billion in deposits since 2005, and St. Cloud, Minn.-based ING Direct, which has amassed 4.7 million customers since its inception in 2000.

Both offer online savings accounts with annual yields of about 5 percent, far greater than the 0.46 percent national average.

Internet-only banks are able to offer such attractive rates because they don't have the personnel and real estate expenses of traditional banks. But a small number of brick-and-mortar banks are trying to recapture lost business by rolling out their own Internet offerings.

In Indianapolis, Columbus, Ohio-based Huntington Bank was the first to do so by unveiling an online savings account in March with a 5.2-percent annual percentage yield. The account requires a $1,000 minimum balance.

Huntington did so in hopes of separating itself from a saturated market, said Barry Salmons, the bank's Internet and new media marketing manager.

"The competitive nature of banking in the Midwest is such that we are all looking for ways to expand our reach," he said. "We already have name equity in the Indianapolis marketplace, so we think people will do business with us this way."

Indeed, Huntington's purchase of Sky Financial Group Inc. for $3.6 billion will make it the third-largest bank in the city in terms of employment. Huntington has had a local presence since 1986 and will have 63 branches and 120 ATMs following the merger.

The online savings account presents Huntington with an opportunity to serve a portion of its clientele at a lower cost, Salmons said. By growing business over the Internet, banks can avoid building expensive branches. Customers who bank online need fewer physical services, allowing a more attractive return.

Critics abound

But not everyone in the industry is convinced luring customers to the Internet with better rates is a trend they want to follow. New York-based Chase, the city's largest bank, is among the skeptics.

"We reserve our best rates for customers who come in to see us in person," Chase spokeswoman Nancy Norris said. "We have found that works better for us, and frankly, we don't even always advertise our best rates."

Cincinnati-based Fifth Third Bank, the city's third-largest bank, also has no plans to offer an online savings account. Its strategy is to provide a "fair rate" to all its customers, regardless of whether they bank in branches or online, said Mason Coleman, senior vice president, retail executive, for Fifth Third Central Indiana.

Fifth Third's savings rates range from 1.5 percent to 5 percent, but to reach 5 percent, customers must keep a balance of more than $50,000.

There are only about 20 banks nationally-half of which are Internet-based-offering online savings accounts, said Jim Bruene, editor of Seattle-based industry newsletter Online Banking Report.

He expects the number could double in the next few years, although the benefits to the banks are debatable, he said.

"How many really new customers do you get compared to [existing customers] who just transfer their accounts? That's really why more banks wouldn't do this sort of thing," Bruene said. "And what do you tell your customers-that Internet users are five times more valuable than you are?"

To keep too many existing customers from switching accounts, some banks mask their online programs under different names. For instance, the 5.3-percent online savings account from Flushing Savings Bank in New York is offered at iGObanking.com. The same goes for New York Community Bank, which advertises a 4.75-percent money market account at MyBankingDirect.com.

"They're using these other names as a vehicle so they don't cannibalize their banks," said Will Waller, an investment analyst at Washington, D.C.-based Hovde Capital, an investment banking, asset management and private equity firm.

Moreover, many online accounts carry more fees and restrictions than traditional ones. Huntington's savings account, for instance, requires a balance of $1,000 and a $3 monthly fee if it drops below that amount. Customers can't withdraw more than $2,000 a day or $10,000 a month.

For its part, Huntington hopes to strike a balance between traditional customers who prefer a personal relationship and the need to serve a growing segment content with "parking" their excess cash, Salmons said.

"In Indianapolis, what we've learned is that there is an over-indexed population that does all things online, including banking," he said. "It seems like a natural market for us to be in. And with the Sky merger, we'll be getting bigger there."

Online convenience

There's little doubt that consumers are embracing the convenience of banking online. The number of American households that use a computer to pay bills, make transactions or check balances has leaped from 15.5 million in 2000 to 42 million in 2006, according to Online Banking Report.

Consumers cite convenience as the top priority in choosing a bank, whether that's a branch or online, said Tracey Mills, spokeswoman for the Washington, D.C.-based American Bankers Association.

"It's just a reflection of how competitive retail banking is today," Mills said of online accounts. "The difference is, it's over the Internet instead of on Main Street."

To be sure, a January 2007 report from Hovde shows 67 percent of banks missed earnings estimates last year.

A contraction in net interest margins was the leading factor, but increasing competition was cited as well. Besides HSBC and ING, California-based Countrywide Financial is another newcomer that has taken a chunk of business from rivals, accumulating $89 billion in assets since launching banking services in 2001.

"The competitive landscape in the banking space has never been so fierce," the Hovde report said. "As a result, financial institutions will be forced to beat each other down to generate income."

Indications are that consumers will be saving more this year. A weak housing market and slowing economy will cause them to buy less and save more, according to the Washington, D.C.-based Credit Union National Association.

That's welcome news for financial institutions, which are hurting for core deposits because customers haven't been saving as much in recent years.
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