Can Banks Find Growth Through Bitcoin?


bitcoin-1-5-18.pngInvestor speculation in the cryptocurrency market hit a fever pitch in 2017, setting one record high after another over the course of the year. Bitcoin—the most prominent and highly valued cryptocurrency—was valued at $998 on January 1, 2017, according to the cryptocurrency news source CoinDesk. By mid-December, it was closing in on $20,000. Bitcoin fell to $13,860 at the end of the year, but these gains are still remarkable. Other cryptocurrencies—notably Ethereum and Litecoin—saw similar gains in 2017, albeit at a lower price point.

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Alan Lane, the chief executive of Silvergate Bank, bought his first Bitcoin in 2013. The $1.2 billion asset bank based in La Jolla, California, was seeking deposit niches to fund its loan growth, and the more he explored the cryptocurrency space, the more he realized that these companies were flush with venture capital cash but lacked banks willing to provide deposit accounts to these companies. Early on, Lane brought in a potential client in the cryptocurrency space to speak with a few members of his team about how cryptocurrency works, and the challenges these firms face in establishing banking relationships. In 2014, the bank started building deposit relationships with cryptocurrency and other financial technology firms. “It’s become a major line of business for us,” Lane says.

The bank developed a program to build these deposits while staying in the right lanes for regulatory compliance. The bank established an early dialogue with its regulators. “We invited our regulators in to walk through how we were approaching this [and] the kinds of analysis we were doing in terms of vetting the appropriate [regulations] as related to a particular customer that we might choose to bank,” says Lane. “That early dialogue with the regulators has continued.” He dismisses concerns that cryptocurrency businesses are inherently dangerous. “There are regulations on the books, and it’s up to us to figure out how those regulations apply and how we can do things in a safe and sound manner,” he says.

Cross River Bank, with $877 million in assets in Teaneck, New Jersey, provides settlement and treasury management services for the cryptocurrency exchange Coinbase—an active business, given Bitcoin’s rise. “We have a strong appetite for those kinds of relationships,” says Cross River CEO Gilles Gade. Due diligence for these relationships is rigorous. Clients must have an executive on staff dedicated to BSA/AML, and systems equipped to comply with the Bank Secrecy Act and related rules. Cross River has the internal expertise to monitor these transactions as well, and Gade characterizes the bank’s risk limits as conservative.

Cross River Bank has developed APIs to facilitate cryptocurrency transactions, allowing the bank to quickly access the accounts of Coinbase users. “We never actually touch Bitcoin,” says Gade. Money is pulled from the Coinbase user’s bank account and deposited in a dedicated Coinbase account at Cross River. Coinbase then issues the desired cryptocurrency to the user. When the user wants to sell, the reverse of this process occurs, with the money in U.S. dollars landing in the user’s traditional bank account.

The banking industry has focused more attention on the potential of the underlying technology behind bitcoin—blockchain, a digital ledger by which participants can transfer assets without a centralized authority. “The underlying technology is where the real value is,” particularly for the banking industry, says Brent McCauley, a partner at the law firm Barack Ferrazzano. Blockchain could help the financial sector create efficiencies in several areas, from cross-border transactions to authenticating customer identities. And banks are actively testing concepts and working with the technology. “The blockchain is a technology which is a good technology. We actually use it. It will be useful in a lot of different things,” said Chase CEO Jamie Dimon last October, who has harshly criticized Bitcoin. “God bless the blockchain.”

Bitcoin has captured the attention of investors looking to cash in on the crypto-boom, but the volatility shown by Bitcoin and its crypto-brethren makes it an undesirable way pay for goods and services in the United States, or any other country with a stable currency. “The price has been skyrocketing, but for the most part, people are not using it for financial transactions,” says Jim Sinegal, an equity analyst with Morningstar. What seller wants to lose thousands of dollars if Bitcoin crashes, and what buyer is comfortable paying significantly more than an object is worth when the currency fluctuates?

As a result, few retailers accept Bitcoin as a method of payment. But as the payments landscape continues to evolve, bank boards and management teams would benefit from understanding cryptocurrency. Bitcoin transactions are public and traceable, for example. “Everybody can see the chain of title for Bitcoin, so it does provide some advantages that fungible currency doesn’t provide,” says McCauley. Central banks are exploring their own options for digital currency, and there are several cryptocurrency competitors to Bitcoin. Even if it doesn’t become a common form of currency in its own right, Bitcoin has blown the lid off the payments space. It would behoove directors serving on bank boards to consider what this means for their own institutions, and whether there’s a way to make a profit in this evolving space.

Disclosure: The writer owns a small stake in Bitcoin, Ethereum and Litecoin and manages her investment through her Coinbase account.

Blockchain Information Series: It’s All About the Block


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FinXTech Advisor, Christa Steele, has created a four part series to educate our community about how blockchain is changing the transaction of digital information, its implications and the players who are shaping this technology. Below is Part One of this series.

Part Two
Part Three
Part Four

I started researching blockchain in the fall of 2015 and became intrigued by the new digital currency called bitcoin. My attention quickly turned to how bitcoin was produced and the ways in which its underlying technology, the blockchain, was being explored in the financial sector. Early use cases were focused on international payments, foreign exchange, bond issuances, clearing and settlement processes. My intrigue has since broadened far beyond that of just the financial sector.

By way of background, I am not a programmer or developer. If you ask my friends and family they will tell you that I often struggle to properly use my (supposedly) universal remote control! My view of blockchain is from the practical application standpoint of how this technology can be integrated. Businesses today, whether you are a financial institution, manufacturer or a packaged goods provider, must be data driven and place business intelligence at the center of operations. There is a lot of low hanging fruit that can be picked from the proverbial fruit tree by utilizing blockchain technology—specifically, efficiency gains, cost saves, reduction in errors and redundancies, improved collection and storage of data without compromising good corporate governance.

For example, today in the financial industry, it is not uncommon for a stock trade to take two to three days to settle, or for bank loan trades to take in excess of 20 days to settle. Think about the amount of manual processes, double and triple entries being conducted today by multiple employees. Using blockchain technology, the average trade takes less than 10 minutes while at the same time effectively mitigating settlement, counterparty and systemic risk. Morgan Stanley Research group estimates the cost savings of using blockchain technology for trade settlements could save the industry in excess of $20 billion.

Who started it all?
First, let’s take a trip back in time and think about 1993. Were you a little reluctant to give up your old reliable friend, the fax machine, for e-mail? In addition to e-mail, we all became exposed to the worldwide web, .coms, social media and more sophisticated mobile phones, to name just a few communication advancements.

For the next several years, security and privacy became increasingly important as cybercrime grew to become a serious threat, and also when cryptography began to take center stage.

In 2008, Satoshi Nakamoto created the first peer-to-peer electronic cash system called bitcoin. Initially, it was all about currency and the ability to securely transact by eliminating all middlemen, costs and complexity of transactions. This was done through a shared ledger and network, cryptographically, using mathematical algorithms to confirm transactions and entities.

Though there are many passionate enthusiasts forging ahead with digital currency, it’s important to understand that this development will take time. It is unlikely we will see a conversion of all U.S. currency in our lifetime. Today, this would require the production of 21 billion bitcoin to replace all existing U.S. currency. However, it is realistic to assume some form(s) of digital currency will prevail at some point in the future.

What is it?
A software that enables data sharing across a network of computers.

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Today we are centralized. Blockchain offers a decentralized and distributed system through shared software infrastructure and trust. Users agree to a software protocol that describe the rules for the type, quality and transferability of data in addition to the rules for authorization, verification and permutation.

How does it work?
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Let’s simplify this very technical description of how blockchain works by remembering that a blockchain can be likened to an assembly line in an auto manufacturing plant in which each block represents a component of the car, or in this case, computers transferring blocks of records in a distributed ledger. The end product, the car, is the bitcoin or token used to record and transfer the asset.

If you want to learn more, Don Tapscott’s book “Blockchain Revolution” is a great and easy read. You can also visit Kahn Academy online for more bitcoin and blockchain tutorials.

How Digital Currency Innovation is Disrupting Equity Crowdfunding


crowdfunding-8-24-16.pngIn July of 2014, Facebook acquired virtual reality headset company Oculus Rift for around $2 billion. One of the most successful crowdfunded companies of all time, Oculus raised nearly $2.4 billion on the popular crowdfunding platform, Kickstarter.

Sounds like a great success story in crowdfunding, but here’s the catch: Kickstarter investors saw barely a dime from the lucrative buyout.

That’s because traditional crowdfunding platforms like Kickstarter are middlemen, set up to reward Kickstarter participants with things like tiered promotional items, and in the case of Oculus, early access to or discounts on the product. As it stands now, crowdfunding a startup gets platform investors just about anything except an actual piece of the company.

But that’s all set to change this year. The federal Jumpstart Our Business Startups (JOBS) Act has provisions set to kick in that will allow crowdfunded startups to issue equity directly to their investors. Financial technology companies are ready to move quickly, seeking to leverage digital currencies and innovations like bitcoin and the blockchain to create completely digital stock offerings for investors. Simply put, they want to cut out intermediaries like Kickstarter to provide investor with direct access and greater returns.

Here’s a look at what some of the early leaders in the space are doing, and how digital currency could be a major game changer to equity crowdfunding in 2016 and beyond. […]

This content was originally written for FinXTech.com. For the complete article, please click here.

How Digital Currency Innovation is Disrupting Equity Crowdfunding


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In July of 2014, Facebook acquired virtual reality headset company Oculus Rift for around $2 billion. One of the most successful crowdfunded companies of all time, Oculus raised nearly $2.4 billion on the popular crowdfunding platform, Kickstarter.

Sounds like a great success story in crowdfunding, but here’s the catch: Kickstarter investors saw barely a dime from the lucrative buyout.

That’s because traditional crowdfunding platforms like Kickstarter are middlemen, set up to reward Kickstarter participants with things like tiered promotional items, and in the case of Oculus, early access to or discounts on the product. As it stands now, crowdfunding a startup gets platform investors just about anything except an actual piece of the company.

But that’s all set to change this year. The federal Jumpstart Our Business Startups (JOBS) Act has provisions set to kick in that will allow crowdfunded startups to issue equity directly to their investors. Financial technology companies are ready to move quickly, seeking to leverage digital currencies and innovations like bitcoin and the blockchain to create completely digital stock offerings for investors. Simply put, they want to cut out intermediaries like Kickstarter to provide investor with direct access and greater returns.

Here’s a look at what some of the early leaders in the space are doing, and how digital currency could be a major game changer to equity crowdfunding in 2016 and beyond.

True Equity Crowdfunding is On The Way
While the regulatory framework for equity crowdfunding in the United States has only recently been codified, it will set the table for existing platforms like Seedrs and Crowdcube to enter the marketplace. Both companies have been operating in the United Kingdom for several years, as UK regulators have made it a point to work with fintech companies early on and implement favorable frameworks for their development.

Seedrs goes far beyond the Kickstarter model, allowing different shareholder equity models such as “funds” of startups (investors receive stock in a basket of startups, similar to a mutual fund) and convertible notes. With Crowdcube, investors can choose to fund businesses with a choice of equity or debt. Neither of these companies are issuing equity in digital currency (yet), but the synergies are becoming apparent as bitcoin-related startups like Bitreserve are using these platforms to raise money for their businesses.

Digital Equity Can Be Issued with the Counterparty Protocol
Also known as cryptocurrency, digital money like bitcoin is completely virtual and has a cap on the total amount that can be in circulation at any given time. Users can hold their bitcoin, exchange it into fiat currency or spend it on goods or services from retailers that accept bitcoin. Major retailers like Amazon, CVS and Target are among those that now accept bitcoin as payment. All transactions are secure and verifiable through a public digital ledger known as the blockchain, which presents several unique opportunities in terms of equity crowdfunding.

This is largely due in part to what’s known as the blockchain’s Counterparty Protocol, an API that allows assets like equity shares and dividends to be created and exchanged using bitcoin or other digital currency. Fueled by the open source Counterparty Foundation, startups can create their own digital tokens representing various assets (such as shares of stock) and issue those assets directly to their crowdfunding shareholders’ bitcoin wallets. Although any startup can complete this process independently, there is a high amount of trust involved in these transactions, with a certain amount of risk on both sides of the equation. Startups like Tokenly are emerging to bridge the gap to make these counterparty equity transaction more secure, easy and transparent.

Improved Investor Certainty and Participation on the Blockchain
Digital currency innovation has become increasingly ambitious over the last few years. Ethereum, in particular, has created its own bitcoin derivative called Ether. The express purpose of Ether is not to supplant bitcoin as a digital currency, but to create a better way for the creation and exchange of tokens like crowdfunded equity shares. Because Ethereum is capable of creating an entire Democratic Autonomous Organization (DAO) on the blockchain, startups can basically automate the financial administration of their company, including equity shareholder participation. When a company needs to take a vote from shareholders, for example, the entire process can be completed within Ethereum by identifying shareholders via their unique shareholder token and thereby allowing votes to be cast digitally on the blockchain.

The result is that when companies choose to crowdfund on Ethereum, they can issue equity shares in the form of tokens with pre-set rules and goals regarding when and how much investors will receive returns based on their initial investment. Digix, a startup that backs shares of gold with cryptocurrency, was recently one of the first companies to crowdsale their tokens on Ethereum’s DAO. In just under 12 hours Digix reached its crowdfunding goal of $5.5 million, with investors receiving a token tied to a specific amount of physical gold. The exact same process can be applied to equity crowdfunding of all shapes and sizes, giving investors a verified share of the company along with certainty (based on public DAO rules) as to when they’ll see a return.

So what does it all mean for the future of equity crowdfunding? The point is that, while traditional crowdfunding might be fun and rewarding in an intrinsic sense, there are severe limitations on the extrinsic financial rewards investors can receive. With innovations like counterparty equity and DAOs on the blockchain, fintech innovators are already on the move to ensure investors get more from their crowdfunding efforts than just a free t-shirt.

What Banks Need to Do to Address Technological Change


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In the past few years the fintech industry has grown exponentially. According to a recent Forbes article, the existing number of fintech start-ups globally are between 5,000 and 6,000, all seeking to take a slice of the financial services marketplace. The fintech industry broadly includes any new technology that touches the financial world, and in many ways, this industry redefines forever the notion of traditional banking. More specifically, fintech includes new payment systems and currencies such as bitcoin, service aggregators such as robo advisors, as well as mobile applications, data analytics and online lending platforms. The fintech industry can also be divided into collaborators and disruptors, those businesses that provide services to banks and those that are competitors for services and looking to displace banks. As new technologies and approaches to delivering financial services are adopted, community banks will be challenged to meet the future expectations of their customers as well as to assess the additional risks, costs, resources and supervisory concerns associated with providing new financial services and products in a highly regulated environment.

The largest commercial banks have recognized the future competitive impact on their business as fintech companies create new and efficient ways to deliver services to their customers. Bank of America, for example, recently announced a fintech initiative and plans to target the start-up market for potential acquisitions. The large banks have the advantage of scale, deep pockets and the luxury of making bets on new technologies. If not by acquisition, other banks are partnering with new players that have unique capabilities to offer products outside of traditional banking. While community banks are not new to the benefits of fintech, the advancement and number of new technologies and potential competitors have been difficult to keep up with and integrate into a traditional bank’s business model. On top of that, the fintech industry remains largely unregulated at the federal level, at least for now.

Competition, compliance and cost are the three critical factors that bank management and board members must assess in adopting new technologies or fending them off by trying to stick with traditional banking values. Good, old-fashioned service based on long-term banking relationships may become a thing of the past as the millennial generation grows older. Contactless banking by the end of this decade or sooner could rule the financial services industry. While in some small community banking markets, the traditional relationship model may survive, it is far from certain as the number of brick-and-mortar bank branches in the United States continues to decline.

Also falling under the fintech umbrella is the rapidly escalating online marketplace lending industry. While most banks may rationalize that these new alternative lending sources do not meet prudent credit standards in a regulated environment, the industry provides sources of consumer, business and real estate credit serving a diverse market in the billions. While the grass roots banking lobby has been around forever, longtime banks should take note that the fintech industry is also gaining support on Capitol Hill, as a group of Republicans are now preparing legislation coined the “Innovation Initiative” to facilitate the advancement and growth of fintech within the financial services industry.

Fortunately, the banking regulators are also supportive of innovation and the adoption of new technologies. The Comptroller of the Currency in March released a statement on its perspective on responsible innovation. As Comptroller Thomas Curry noted, “At the OCC, we are making certain that institutions with federal charters have a regulatory framework that is receptive to responsible innovation along with the supervision that supports it.” In an April speech, he confirmed the OCC’s commitment to innovation and acceptance of new technologies adopted by banks, provided safety and soundness standards are adhered to. The operative words here are responsible and supervision.

Innovation will come with a price, particularly for small and midsize community banks. Compliance costs as banks adopt new technologies will increase, with greater risk management responsibilities, effective corporate governance and advanced internal controls being required. Banks may find it necessary to hire dedicated in-house staff with Silicon Valley-type expertise, hire chief technology officers and perhaps even change the board’s composition to include members that have strong technology backgrounds. In the end, banks need to step up their technology learning curve, find ways to be competitive and choose new technologies that serve the banking needs and expectations of their customers as banking and fintech continues to converge.

This article was originally featured on BankDirector.com.

BNY Mellon Is Betting on Blockchain


blockchain-6-24-16.pngSometimes people ask BNY Chief Information Officer Suresh Kumar if blockchain is a friend or foe. “Why would I think of that as a foe?” Kumar told the magazine Fast Company in June. “It’s another piece of technology that could help us and our clients and remove friction from the system.”

Blockchain is the technology underlying bitcoin, the most popular form of cryptocurrency, a digital, encrypted currency that isn’t tied to a central bank. Blockchain is the public ledger for all bitcoin transactions, and each block on the blockchain represents a transaction. These transactions are irreversible.

Organizations, including banks, see potential for blockchain technology to revolutionize many areas of the financial industry and beyond, including securities trading, payments, fraud prevention and regulatory compliance. “We think blockchain can be transformative,” said BNY Mellon CEO Gerald Hassell, in the company’s first quarter 2016 earnings call. “We’re spending a lot of time and energy on it, but I think it’s going to take some time to see it play out in a full, meaningful way. We actually see ourselves as one of the major participants in using the technology to improve the efficiency of our operations and the resiliency of our operations.”

Saket Sharma, BNY Mellon’s chief information officer of treasury services, chairs a virtual team at the bank that includes all lines of the bank’s business. The team meets monthly, with the goal to foster understanding regarding how blockchain could impact each area of the organization. Meanwhile, BNY Mellon’s innovation center actively works with the technology. “We need to constantly be in touch with it, because technology’s evolving so rapidly,” he says.

BNY Mellon created an internal currency, called “BKoins,” to understand how blockchain technology could impact the bank. “We thought it would be good to do something purely internally, and learn about the technology,” says Sharma.

BKoin doesn’t have real value, but by working with it, the technology team now understands how the blockchain is generated, and from there is learning how it could transform different business lines, as well as the organization as a whole. It was widely reported last year that the cryptocurrency would be used as an internal rewards program, where employees could exchange BKoins for gift cards and perks. While the bank doesn’t rule out those possibilities for the future, Sharma says that this isn’t how BKoin is currently used and, aside from that, was never the goal. The goal is to educate BNY Mellon’s technology team and business lines about blockchain’s possibilities, and create a conversation about the technology’s potential for the organization. The approach has resulted in a significant increase in knowledge about blockchain at BNY Mellon in the span of just a few months, he says.

BNY Mellon isn’t the only bank using its own internal cryptocurrency to test blockchain’s potential. Citigroup and Japan’s Bank of Tokyo-Mitsubishi UFJ are also experimenting with proprietary digital currencies.

In addition to internal trials, BNY Mellon is also a member of a consortium of more than 40 global banks, including JPMorgan Chase & Co., Wells Fargo & Co. and Bank of America Corp., which is led by the financial innovation firm R3 in New York. Following a smaller test in January, 40 banks, including BNY Mellon, successfully traded fixed income assets in March using blockchains built by IBM, Intel and startup firms Chain, Eris Industries and Ethereum.

How blockchain will impact the banking industry is unclear for now. But the potential benefits are promising: Efficiency gains created through the technology could save the industry $20 billion annually by 2022, according to a joint paper released by Santander Innoventures, the consulting firm Oliver Wyman and London-based advisory firm Anthemis Group.

But the blockchain probably isn’t ready for primetime yet. In June, a hack resulted in the theft of almost 4 million “ether,” a cryptocurrency housed on the Ethereum blockchain, from the Decentralized Autonomous Organization (DAO), a crowdfunded venture capital firm. At the time, the stolen “ether” was valued at $79.6 million. After the discovery, the value of the cryptocurrency plunged precipitously. Bitcoin’s value stumbled as well.

Two days after the DAO incident, Ethereum creator Vitalik Buterin wrote: “There will be further bugs, and we will learn further lessons; there will not be a single magic technology that solves everything.”

Banks are less comfortable with the inevitable failures that come along with experimentation, but BNY Mellon and other global banks will continue to cautiously experiment, combining internal experiments with peer collaboration. “We’re going to have to work together with our industry peers to really drive [blockchain innovation],” says Sharma.

What Banks Need to Do to Address Technological Change


technology-4-27-16.pngIn the past few years the fintech industry has grown exponentially. According to a recent Forbes article, the existing number of fintech start-ups globally are between 5,000 and 6,000, all seeking to take a slice of the financial services marketplace. The fintech industry broadly includes any new technology that touches the financial world, and in many ways, this industry redefines forever the notion of traditional banking. More specifically, fintech includes new payment systems and currencies such as bitcoin, service aggregators such as robo advisors, as well as mobile applications, data analytics and online lending platforms. The fintech industry can also be divided into collaborators and disruptors, those businesses that provide services to banks and those that are competitors for services and looking to displace banks. As new technologies and approaches to delivering financial services are adopted, community banks will be challenged to meet the future expectations of their customers as well as to assess the additional risks, costs, resources and supervisory concerns associated with providing new financial services and products in a highly regulated environment.

The largest commercial banks have recognized the future competitive impact on their business as fintech companies create new and efficient ways to deliver services to their customers. Bank of America, for example, recently announced a fintech initiative and plans to target the start-up market for potential acquisitions. The large banks have the advantage of scale, deep pockets and the luxury of making bets on new technologies. If not by acquisition, other banks are partnering with new players that have unique capabilities to offer products outside of traditional banking. While community banks are not new to the benefits of fintech, the advancement and number of new technologies and potential competitors have been difficult to keep up with and integrate into a traditional bank’s business model. On top of that, the fintech industry remains largely unregulated at the federal level, at least for now.

Competition, compliance and cost are the three critical factors that bank management and board members must assess in adopting new technologies or fending them off by trying to stick with traditional banking values. Good, old-fashioned service based on long-term banking relationships may become a thing of the past as the millennial generation grows older. Contactless banking by the end of this decade or sooner could rule the financial services industry. While in some small community banking markets, the traditional relationship model may survive, it is far from certain as the number of brick-and-mortar bank branches in the United States continues to decline.

Also falling under the fintech umbrella is the rapidly escalating online marketplace lending industry. While most banks may rationalize that these new alternative lending sources do not meet prudent credit standards in a regulated environment, the industry provides sources of consumer, business and real estate credit serving a diverse market in the billions. While the grass roots banking lobby has been around forever, longtime banks should take note that the fintech industry is also gaining support on Capitol Hill, as a group of Republicans are now preparing legislation coined the “Innovation Initiative” to facilitate the advancement and growth of fintech within the financial services industry.

Fortunately, the banking regulators are also supportive of innovation and the adoption of new technologies. The Comptroller of the Currency in March released a statement on its perspective on responsible innovation. As Comptroller Thomas Curry noted, “At the OCC, we are making certain that institutions with federal charters have a regulatory framework that is receptive to responsible innovation along with the supervision that supports it.” In an April speech, he confirmed the OCC’s commitment to innovation and acceptance of new technologies adopted by banks, provided safety and soundness standards are adhered to. The operative words here are responsible and supervision.

Innovation will come with a price, particularly for small and midsize community banks. Compliance costs as banks adopt new technologies will increase, with greater risk management responsibilities, effective corporate governance and advanced internal controls being required. Banks may find it necessary to hire dedicated in-house staff with Silicon Valley-type expertise, hire chief technology officers and perhaps even change the board’s composition to include members that have strong technology backgrounds. In the end, banks need to step up their technology learning curve, find ways to be competitive and choose new technologies that serve the banking needs and expectations of their customers as banking and fintech continues to converge.