The Philippines holds significant potential for digital challenger banks, given its large unbanked population, but their impact on the overall banking sector remains modest, according to a December 2023 report of Fitch Ratings.
Despite experiencing rapid growth in less than two years since their inception, digital banks’ aggregate market share of system deposits remained below 0.4 percent at the end of June 2023. The average deposits per customer also indicate that they have not captured a substantial portion of depositors’ operating accounts.
Fitch anticipates that digital banks will continue to aggressively compete for deposits in the next two years as they refine their business models and build scale.
While many rely heavily on pricing to attract new customers, this strategy has become more challenging in the current higher-interest-rate environment. Some digital banks offer promotional deposit rates of up to 15 percent, compared to average time-deposit rates of 4 percent to 5 percent, Fitch said.
While such an approach may support initial expansion, Fitch believes it is unsustainable in the long run. Increased digitalization allows customers to easily switch accounts, making it challenging for price-focused digital banks to retain customers once promotional rates expire.
Digital banks backed by established companies with complementary businesses and extensive customer bases are expected to have a competitive advantage and experience stronger growth in the near to medium term.
Higher funding costs are pushing digital banks towards higher-yielding segments such as unsecured personal and SME loans, which carry more risk. This helps maintain positive credit spreads, but most digital banks are expected to incur losses in the near term due to high credit costs and investments in franchise building and customer base expansion.
Historically, retail loan quality in the Philippines has been weaker than corporate loans, and managing these risks will be a major challenge for digital banks focusing on higher-risk segments and the unbanked population.
Their average non-performing loan (NPL) ratio was 8.5 percent as of September 2023, significantly higher than the banking system average of 3.5 percent. This weaker asset quality has impacted profitability, with impairment charges exceeding 40 percent of revenue in the first nine months of 2023. While robust economic growth in the Philippines is expected to support borrower repayment capacity and asset quality for both digital and incumbent banks in 2024-2025, the nature of digital banks’ loan books and customer base makes them more susceptible to economic shocks outside of Fitch’s baseline assumptions, according to Fitch.
