You may have heard about all the glamor and excitement of these “money-making machines”, but what exactly are investment banks and what do they do? Here is a practical guide for those interested in the investment banking careers.
In a nutshell, investment banks are financial institutions that advise and execute various financial instruments to optimize the financial efficiencies of corporations.
A typical investment bank has 3 arms: Corporate Finance, Sales and Trading, and Research, each with different but complementary roles.
1. Corporate finance is what usually known as the core investment banking and offer the following services to corporate clients:
- Capital raising (issuing equities and debts)
- Bring companies to public markets (Initial Public Offerings or IPO)
- Mergers, acquisitions and divestitures of companies and their divisions
- Business and financial restructuring
- Overall advice on strategic planning
In a large investment bank, the corporate finance
Major product groups include Mergers and Acquisitions (M&A), Leveraged Finance (for high-yield products), as well as Equity Capital Markets (ECM) and Debt Capital Markets (DCM) which work with equity and debt issuance respectively.
An investment bank may also have geographic teams such as Latin America Corporate Finance, and specific country teams in the European and Asian offices in which team members can speak the language of countries under coverage.
2. Sales and Trading is responsible for buying and selling financial products. “Sales” in i-bank means Institutional Sales, whose role is to offer trading ideas to the institutional clients (e.g. mutual funds, pension funds, hedge funds and other fund houses). In many cases the institutional sales will help promote the IPO and new equity/debt issuance arranged by the Corporate Finance arm.
“Trading” in i-bank engages in the trading various financial instruments to earn a spread (difference between purchase and selling price) or commission (charge to client in the form of a percentage from the transactions). These financial instruments include stocks, bonds, foreign currencies, commodities, structured products and other derivative products.
Large investment banks may also have a proprietary trading desk in which the traders use the investment bank’s own capital to trade and make profits (i.e. their client is the i-bank itself). These traders are (in)famous of making big bets that may generate huge gain or loss for the firm. Therefore, investment banks with an active proprietary desk are considered to have a more risky profile.
3. In the Research department, the Security Analysts (or Research Analysts) study public companies and write reports with recommendation, typically with “buy”, “hold” or “sell” ratings. These research reports are often used by Institutional Sales for recommending trading ideas and for Investment Bankers to cover their clients.
As you may realize, having research and corporate finance in the same firm create a potential conflict of interests: for example, an investment banker may “force” the research analyst to write something good on his best clients; or that the research analyst may become aware and incorrectly disclose an imminent transaction not yet known to the public. To solve this problem, investment banks are required to strictly separate these two divisions in a practice known as the “Chinese Wall”.
While this covers the three major divisions in an investment bank, the firm may have other divisions such as investment management, private equity, as well as other middle- and back-office functions such as Treasury, Corporate Strategy, Financial Control, Risk Management, Compliance, Operations and IT.
Therefore, students and graduates should not limit themselves to consider only Corporate Finance for their investment banking careers – Sales and Trading, Research as well as other opportunities within investment banking can be equally rewarding. Do more research and find out what’s best for you. Good luck!