Banking in the lens of Retail

Using Feynman's technique to simplify and understand the banking business by likening it to retailing.

Retailer buys products from manufacturers and sells them to customers. Similarly, bank receives money from central banks and lends it to people in need.

Retailer aims to improve profit, while bank aims to improve the 'spread' — the difference between the central bank rate and the rate charged to customers.

From a bank's risk manager’s perspective, risk management in retail involves tracking products that take a long time to sell—so long, in fact, that it would have made more sense to simply deposit the money in a bank. Worse yet, some products end up unsold, similar to bad loans that can't be recovered by the bank.

New products pose a risk, so retailers set higher margins to compensate. Banks do the same by setting higher interest rates to cover the risks associated with new businesses.

The return policy in retail functions as a hedging instrument, similar to a put option in banking. In retail, manufacturers agree to take back unsold or near-expiry products if the retailer requests it. In banking, a put option allows the owner to sell stock at a predetermined price if the value is expected to drop.

Most businesses are invariably the same upon close observation.

Orginally published on LinkedIn