Learn the definition of investment banking covering the role and activities of these banks service clients worldwide.
What is Investment Banking Definition
In simpler terms, investment banking refers to a field in the banking industry which deals in the underwriting of securities issued by a banks clients, i.e., an investment bank. The bank may also serve as a proxy for securities it issues, and also offers a number of other services, such as equity securities trading, and making, among others. Read about the role and the various activities, as follows:
Role of the Investment Banker
Investment bankers have an important role to play in securities markets. Most of the offerings of government securities are made with investment bank facilitation. This is a financial intermediary specializing in selling new securities.
Underwriting is a primary activity for this banker. This process involves purchasing the securities issued by an issuing company at a pre-agreed-upon price, then either taking on the risk themselves or selling them at a profit to other investors. This banker also provides advice to the issuing company on the price and other crucial aspects of the security issue. In very large securities issues, an investment banker will involve other bankers or partners in order to form a syndicate for the underwriting.
They do this in order to spread financial risk by buying an entire issue from an issuer and selling new securities back to the other investors at a profit. The originating banker and syndicate members form the sales team, usually consisting of them and a series of brokerage firms. All members of the selling group assume responsibility for selling portions of the issue, and they earn fees on securities sold.
Investment Banking Activities
There are two major lines of business within an investment bank; the selling side and the buying side. The sell side usually involves the trade of securities, either cash or other securities, or the marketing of securities. It also involves raising capital for businesses, like Initial Public Offerings. The buying side, however, involves providing transaction advisory services for institutions looking to buy investment services.
Entities can include mutual funds, hedge funds, life insurance companies, private equity funds, initial public offerings, and unit trusts. Generally, the roles of investment banks are of three categories, as follows:
1. Front Office of the Investment Bank
This usually involves generating revenues, which is further divided between investment banking and financial markets. Investment banking involves advising organizations on a variety of issues, such as mergers, acquisitions, and capital-raising strategies. Bankers consider it not only the most prestigious, but also the highest paid, branch of banking. Markets, by contrast, include sales, trading, research, structuring, and other activities. It is important to note that although the investment banker is likely to earn more than a trader, a top trader has a significantly higher probability of earning more than the top investment banker.
2. Middle Office of the Investment Bank
Middle-office roles at these types of financial institutions are taking more of a risk-management/cost-cutting approach, as they are involved in the analysis and evaluation of risks taken by those at the front desk. Measures may include setting limits on how much money is available for trading, among others. Here, they can be expected to take decisions about financial services, capital markets, mergers and acquisitions, and corporate financing. Also, investment bankers can work on capital markets and fixed-income instruments.
3. Back Office of the Investment Bank
This is mostly in the area of operations and resource management. Employees need to perform transfers, ensure they are not making any errors or mistakes when processing a customers transactions. These banking functions may involve financial challenges when handling strategic transactions such as capital raising of equity capital and debt capital. The back-office may also involve the tech department, just like commercial banks.