2 More Reasons to Avoid Banks

LONDON -- It's hard to think of a legal industry that has a worse reputation among the general public than banking, except maybe the arms trade. The banks, especially The Royal Bank of Scotland (NYSE: RBS  ) and HBOS, brought this upon themselves after the government bailed them out in 2008 and 2009 to stop them from collapsing the financial system.

What has really upset most people is that the banks, having received loads of bailout money from the taxpayer (most of which went to pay their creditors), continued to pay big bonuses to the same people who bore some responsibility for this disaster.

While these banks are repairing their balance sheets, they are now facing competition from the Internet commerce giants and a new technology that threatens to take away a large part of their business.

A terrible investment
Bank shares have been a terrible investment in recent times, with a few exceptions, such as Standard Chartered  (LSE: STAN.L  ) , whose shares are up more than 65% in the last 10 years. In contrast, Barclays  (NYSE: BCS  ) has seen its share price fall by some 70% during the same period, even though it didn't need a bailout.

If the performance of banking shares wasn't enough to put investors off the sector, the banks will soon be facing competition from a new technology that turns mobile phones into wallets, thus bypassing their payments system. The performance of bank shares is important to investors who own FTSE 100 trackers, because they represent almost 12% of the index.

Competition comes in many forms
Over the years, many industries have been wiped out by competition from a totally different part of the economy, thanks to the invention of a product that is a better substitute for other goods and services. These newcomers can quickly grab a large piece of the market, while the incumbents struggle to compete because of their legacy costs. A good example is the fate of the newspaper business, which has imploded under competition from the Internet.

The record companies gave much of their business away to Apple by letting it establish a stranglehold over MP3 distribution through its iTunes store. This was after Napster showed that many consumers were tired of being forced to buy an entire album in order to get the few songs they really wanted.

PayPal is a big bank
Increasingly, the banks and credit card companies are discovering that companies like eBay and Google are muscling in on their market through the increasing use of their electronic payment systems.

While eBay bought PayPal in 2002 in order to let its customers safely send money over the Internet to complete strangers, it is now one of the world's largest "banks" with more than 100 million active account holders. That's a lot of customers, and PayPal could easily use this base to turn itself into a business that goes head to head with the banks.

Some of the banks' other markets are under attack from Internet commerce. For example, Amazon.com has taken a chunk of the credit card market by offering its own card. Another thing to watch out for is the spread of peer-to-peer lending through firms like Zopa, which started off by lending to consumers but is now expanding into small business loans.

Pay by phone
The thing that could reshape the landscape is near-field communications, a relatively new technology that enables mobile telephones to settle transactions using digital cash. NFC technology is similar to that used in the Oyster card on the London Underground, but with much higher levels of security.

One of my "tech stock punts" -- those very speculative investments where I'm prepared to lose the lot -- is a relatively small holding in the Dutch company NXP Semiconductors, which is the market leader in NFC technology. But NFC is a competitive market, and other companies are already nipping at NXP's heels.

The use of mobile phones for making small payments has been common in some countries -- namely, Finland and Japan -- for several years, but NFC promises to raise this to a whole new level. Once NFC technology comes standard in smartphones -- and there are strong rumors that Apple's next iPhone will have NFC -- the market should take off. Given that the mobile-telephone network operators have plenty of experience in operating micropayment systems, it would be no surprise to see someone like Vodafone set up its own banking arm to take on the high-street banks!

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Tony owns shares in NXP Semiconductors. The Motley Fool owns shares of Google. The Fool owns shares of Apple. Motley Fool newsletter services have recommended buying shares of eBay, Apple, Google, and Vodafone Group Public. Motley Fool newsletter services have recommended creating a bull call spread position in Apple. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


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