Lack of Referrals Stunts Private Banking's Growth

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While consumer demand for mainstream banking services is anemic currently, the affluent sector of the financial services marketplace represents a huge source of additional revenue for banks. But private bank units, designed to offer products and services to the affluent, are barely making a dent in the market, despite evidence that private banking is profitable.

One reason is that private banking organizations at many institutions are still in something of an adolescence--a period of growth and self-definition, when goals come into focus and long-term relationships are forged. But even at institutions whose private bank units are mature, a lack of referrals from elsewhere in the bank is stnting further growth.

Referral reward programs are in place at many banks, which are designed to incite bankers to move business into the private banking unit. "There should also be a greater level of product training going on," says Bruce Callow, senior vice-president at The Northern Trust Co., Chicago. "We not only cross train our various relationship managers on the products that are offered in other parts of the organization, but we give them a greater sense of what the profile of a good prospect is, how those products and services help prospects solve specific problems, and how they bring value to our shareholders."

The size of the private banking market is hard to quantify, because organizations include different financial products and services in their definitions of private banking. But David Palmer, a New York-based consultant who specializes in private banking issues, sees the market as largely untapped. "The affluent do about $177 billion worth of financial services business annually," he says. "Clients of private banking units account for about $72 billion." Of that figure, adds Palmer, only $22 billion in business is conducted at clients' primary banks. "That's a good-sized business, but on the other hand, there's $50 billion those banks are missing."

Growing market. What's more, says Palmer, the private banking market is growing at a rate of 13% to 15% annually, and affluent households in 1990 grew by 25%. "If you can find a better market, go find it," he says. "Is private banking profitable? It's somewhere in the neighborhood of 50% to 100% more profitable on an ROA/ROE basis than most other areas within the bank."

In the retail area, adds Palmer, the top 20% of clients account for 80% of the business. Typical retail clients generate an average of $1,000 in annual revenue, whereas private banking clients generate an average of $5,000 in annual revenue, he notes. "Customers that banks have in the retail part of the bank who should be in the private bank are losing the bank $4,000 per head."

Palmer draws heavily on research conducted by Payment Systems, Inc. (PSI), a research firm in Tampa, Fla. To help banks analyze the affluent marketplace, PSI divides the market into three levels. Level I represents clients with an average annual income of roughly $88,000 and an average net worth in excess of $500,000. Level II clients earn an average of $92,000 per year and have an average net worth in excess of $840,000. Level III customers have an average income of $119,000 and net worth above $2 million.

Where the money is. PSI arrived at these figures after surveying several thousand affluent consumers to determine which services they use and, in turn, which products and services are profitable to the banks. About 2,000 consumers responded to the survey, and the data were tabulated in August 1991. Despite an emerging trend toward offering more asset management services, deposit-based products remain the greatest source of revenue for private bank units compared with mortgages, credit, trusts, and investments.

For example, Level I customers generate 59% of their total revenue contribution to the private bank unit from deposits, compared with 20% from mortgages and 1% from trusts. …