Mise en Place

Say you want to start a bank. What you need — before money to lend, before approval from your regulator, before a bowl of assorted Dum-Dums — are two things: confidence from your future customers that they can get their money back and convenience that it will be easy to do that. That's your mise en place to start a bank.

Pillars of Strength

For most of human or banking history, if you wanted to be a bank, you set up a safe looking building on main street with columns and a big (mostly empty) safe. Columns (those are really important for a bank building) and marble floors made the people — your customers — feel safe about putting their money there, but just as important was that you were the closest branch. This is why there were banks in every town, then on every corner, in every shopping center.

In spring 2023, several banks blinked out of existence. These were mostly regional affairs, with peculiar business models - Silicon Valley Bank, First Republic etc. Confidence is why Silicon Valley Bank and First Republic shuttered. Depositors, for a moment, felt like, maybe, they might not get their deposits back. When a bank loses the confidence of its customers, that's game over. It was game over for SVB and First Republic. Confidence is the game.

Easy Come, Easy Go

Convenience hastened their demise. People use regional and local banks because they're local, which, for a long time, made them easy, convenient. People like easy banking. Businesses, too. No one wants to spend a lot of time searching for a glorified mattress to keep their money under. Whatever is in front of them that's safe will probably do the job. These banks did a good job of getting in front of a certain community of banking customers — VCs and startups. And, like all good banks, they made it easy for customers to get their money.

Despite their collective tantrum, all the customers of Silicon Valley Bank and First Republic got all their money back — because the government said so. Its not a stretch to think that the government would rescue other depositors in similar situations. And that's how depositors have behaved since then, assuming if their bank gets into any trouble, the government will make them whole.

If uncle Sam's (probably) backstopping your deposits, that leaves convenience as the main lever banks have left to pull to operate their business.

Convenience is expensive though. Big, national banks have been best positioned to deliver it. Real estate takes a lot of investment, if you want to setup a bunch of convenient local branches. But, like many aspects of the modern economy, the playing field has moved from real world to the digital. Rather than competing for space on Main Street, banks are setting up shop in your pocket. Financial journalist Joe Wiesenthal said it on the Odd Lots podcast: "to me, a bank is just an app."

JP Morgan, BofA et. al. have the most resources to invest in seamless , secure, whizzy apps. They've done pretty well at this game. In the past, though, a big slice of their growth has come through acquisitions. And meaningful parts of their business run on dusty, hard to manage code that's 50 years old. This is a technological debt that is very expensive to carry. Some of you who bank at one of these large institutions might notice how each account, product or loan doesn't really work together — its often like having accounts at different banks. And for those that say "oh just re-write the code," updating the code is how MF Global ended itself in the time it takes for a morning run. There's risk there.

Apps are also not really the bread and butter of bankers, they're more comfortable skimming loan docs and reading greens. Apps are Silicon Valley territory. Automation, snappy UX/UI, ruthlessly eviscerating friction these are the things software engineers live for. So, of course, a rash of FinTech startups spun up to try and fit every weird corner of banking.

Digital Community

One of these, SoFi, took the route of banking for grad students earning professional degrees from top schools. This bolstered their safety cred — surgeons and lawyers from Stanford and Yale are generally good banking customers. These are also customers who place a higher-than-average value on convenience. So they built a better app — one that does more than most banks with fewer taps and swipes and that all works well together.

The outfit's original business, refinancing student loan, has been DOA since the pandemic when the government said "actually, don't pay those student loans back quite yet," in a very effective campaign to boost consumer spending. This is one reason investors might look down on the company's shares. But, management steered the app to other corners of finance where customers were also quite happy to embrace new avenues of convenience.

The recipe has been a hit. Management has built a durable financial franchise, out-maneuvering its competition on convenience and delivering it to a community that values it most. It sailed through the banking disruption earlier this year after sailing through the challenges from the death of the student loan refinance market the past several years. It has grown speedily and expects to finally turn that size into profit by the end of this year.

Investors are still hanging on to all the headwinds and none of the resilience, making it a potentially attractive opportunity.