Evolution of Investment Banking

Evolution of Investment camberingINTRODUCTIONAt a very(prenominal) macro level, Investment Banking as term suggests, is concerned with the primary function of assisting the crownwork securities industry in its function of capital of the United States intermediation, i.e., the movement of m integritytary resources from those who nourish them (the Investors), to those who need to fixate use of them for generating GDP (the Issuers). Banking and fiscal institution on the one and just now(a) hand and the capital trade on the other ar the two broad platforms of institutional that investment for capital flows in economy. Therefore, it could be inferred that investment brinks atomic number 18 those institutions that argon counterparts of banks in the capital commercialises in the function of intermediation in the resource anyocation. Neverthe little, it would be unfair to conclude so, as that would confine investment banking to very narrow sphere of its activities in the mod ern world of high finance. Over the decades, backed by evolution and in addition fuelled by recent technologies developments, an investment banking has alter repeatedly to suit the needs of the finance community and thus be move up one of the to the highest degree vibrant and exciting segment of financial service. Investment bankers nominate always enjoyed celebrity status, but at beats, they feed paid the price for the price for excessive flamboyance as well.To continue from the above words of basin F. Marshall and M.E. Eills,investment banking is what investment banks do. This definition potful be explained in the context of how investment banks contain evolved in their functionality and how register and regulatory interjection draw shaped such(prenominal) an evolution. Much of investment banking in its present form, thus owes its origins to the financial grocery stores in USA, due o which, Ameri layabout investment banks have banks have been leaders in the American a nd Euro markets as well. Therefore, the term investment banking can arguably be said to be of American origin. Their counterparts in UK were termed as merchants banks since they had confined themselves to capital market intermediation until the US investments banks entered the UK and European markets and extended the scope of such commercial enterprisees.Investment bankshelp companies and governments and their agencies to raise funds by military issue and cheating acquisitions and other types of financial transactions.Investment banks also act as intermediaries in art for clients. Investment banks differ from stock ups, bonds, and mutual funds. However some firms scarper as some(prenominal) brokerages and investment banks this embarrasss some of the best fill outn financial services firms in the world.More honey oilly used today to characterize what was traditionally termed investment banking is sells side. This is trading securities for change or securities (i.e., facil itating transactions, market-making), or the promotion of securities (i.e. underwriting,research, etc.).The bargain side constitutes the hedge funds, and the expend world who consume the products and services of the sell-side in army to maximize their re charm on investment. Many firms have both buy and sell side components.DefinitionAn individual or institution, which acts as an underwriter or agent for corporations and municipalities issuing securities. Most also maintain broker/dealer operations, maintain markets for previously issued securities, and offer advisory services to investors. Investment banks also have a large role in facilitating mergers and acquisitions, private equity placements and corporate restructuring. Unlike traditional banks, investment banks do non accept deposits from and provide loans to individuals. in any case called investment banker.Who needs an Investment Bank?Any firm contemplating a significant transaction can benefit from the advice of an in vestment bank. Although large corporations often have sophisticated finance and corporate development departments provide objectivity, a priceless contact network, allows for efficient use of client personnel, and is vitally interested in perceive the transaction bordering.Most grim to medium sized companies do not have a large in-house staff, and in a financial transaction may be at a disadvantage versus larger competitors. A feeling investment banking firm can provide the services required to initiate and dress a major transaction, thereby empowering small to medium sized companies with financial and transaction experience with step forward the addition of permanent overhead, an investment bank provides objectivity, a valuable contact network, allows for efficient use of client personnel, and is vitally interested in seeing the transaction close.Most small to medium sized companies do not have a large in-house staff, and in a financial transaction may be at a disadvantage versus larger competitors. A quality investment-banking firm can provide the servicesThe main activities and unitsThe primary function of an investment bank is buying and selling products both on behalf of the banks clients and also for the bank itself. Banks undertake run a risk through proprietary trading, done by a special set of traders who do not interface with clients and through Principal Risk, risk undertaken by a trader after he or she buys or sells a product to a client and does not hedge his or her fare exposure. Banks seek to maximize profitability for a given amount of risk on their balance sheetAn investment bank is split into the so-called forepart lieuMiddle OfficeandBack Office.The individual activities are described belowFront Office Investment Bankingis the traditional aspect of investment banks which involves support customers raise Corporate Finance (often pronounced corpfin).mutual funds) .Research and Structuring.Sales desks then communicate their clients orders to the appropriate trading desks, which can price and execute trades, or structure new products that fit a specific need.Research is the component which reviews companies and writes reports about their prospects, often with buy or sell ratings. While the research division generates no revenue, its resources are used to assist traders in trading, the sales force in suggesting ideas to customers, and investment bankers by summiting their clients. In recent years the alliance between investment banking and research has be get a bulky with highly regulated, reducing its importance to the investment bank.Structuringhas been a relatively recent division as derivatives have come into play, with highly technical and numerate employees working on creating complex structured products which typically offer much greater margins and returns than cardinal cash securities.Middle Office* operational risk and the assurance Middle Offices provide now let in measures to address this risk. When this assurance is not in place, market and credit risk digest can be unreliable and open to deliberate manipulation.Back Office Operationsinvolve data-checking trades that have been conducted, ensuring that they are not erroneous, and transacting the required transfers. While it provides the superior job security of the divisions within an investment bank, it is a critical part of the bank that involves managing the financial information of the bank and ensures efficient capital markets through the financial reporting function. The staff in these areas are often highly qualified and need to understand in depth the deals and transactions that occur across all the divisions of the bank.New productsInvestment banking is one of the most global industries and is hence continuously challenged to respond to new developments and innovation in the global financial markets. Throughout the history of investment banking, many have theorized that all investment banking products and servi ces would be copy responsibilityed, they are very often copied quickly by competing banks, pushing down trading margins.For example,OTC contract has to be uniquely structured and could involve complex pay-off and risk profiles. Listed option contracts are traded through major ex compounds, such as the CBOE, and are almost as commoditized as general equity securities.In addition, while many products have been commoditized, an increasing amount of profit within investment banks has come from proprietary trading, where size creates a positive network benefit (since the much(prenominal) trades an investment bank does, the more it knows about the market flow, allowing it to theoretically make fracture trades and pass on reform guidance to clients).Potential conflicts of interest may arise between different parts of a bank, creating the potential for financial movements that could be market manipulation. Authorities that regulate investment banking (the Chinese wall which prohibits co mmunication between investment banking on one side and research and equities on the other. cheeseparingly of the conflicts of interest that can be found in investment banking are listed hereHistorically, equity research firms were founded and owned by investment banks. One common practice is for equity analysts to initiate coverage on a company in order to develop relationships that lead to highly profitable investment banking business. In the 1990s, many equity researchers allegedly traded positive stock ratings directly for investment banking business. On the flip side of the coin companies would threaten to divert investment banking business to competitors unless their stock was rated favorably. Politicians acted to pass laws to criminalize such acts. Increased pressure from regulators and a series of lawsuits, settlements, and prosecutions curbed this business to a large extent following the 2001 stock market tumbleMany investment banks also own retail brokerages. Also during t he 1990s, some retail brokerages interchange consumers securities which did not meet their stated risk profile. This expression may have led to investment banking business or even sales of surplus shares during a public offering to keep public intuition of the stock favorable.Since investment banks engage heavily in trading for their own account, there is always the temptation or possibility that they might engage in some form of front running.Types of investment banksunderwrite(guarantee the sale of) stock and bond issues, trade for their own accounts, make markets, and advise corporations on capital markets activities such asmergers and acquisitionsMerchant bankswere traditionally banks which engaged in trade financing. The modern definition, however, refers to banks which provide capital to firms in the form of shares rather than loans. UnlikeVenture ca pital firms, they tend not to invest in new companies.Investment banks provide four primary types of servicesRaising capital, advising in mergers and acquisitions, executing securities sales and trading, and acting general advisory services. Most of the major Wall Street firms are active in apiece of these categories. Smaller investment banks may specialize in two or three of these categories.Raising CapitalAn investment bank can assist a firm in raising funds to progress to a variety of objectives, such as to acquire another company, reduce its debt load, expand existing operations, or for specific project financing. Capital can include some combination of debt, common equity, preferred equity, and hybrid securities such as convertible debt or debt with warrants. Although many people associate raising capital with public stock offerings, a great deal of capital is real raised through private placements with institutions, specialized investment funds, and private individuals. The investment bank pull up stakes work with the client to structure the transaction to meet specific objectives while being a ttractive to investors.Mergers and AcquisitionsInvestment banks often represent firms in mergers, acquisitions, and divestitures. Example projects include the acquisition of a specific firm, the sale of a company or a subsidiary of the company, and assistance in identifying, structuring, and executing a merger or joint venture. In each case, the investment bank should provide a thorough analysis of the entity bought or sold, as well as a rating range and recommended structure.Sales and TradingThese services are primarily relevant only to publicly traded firms, or firms, which plan to go public in the near future. Specific functions include making a market in a stock, placing new offerings, and publishing research reports.General Advisory ServicesAdvisory services include assignments such as strategic planning, business valuations, assisting in financial restructurings, and providing an opinion as to the fairness of a proposed transaction.Terms Related To Investment BankBuying and S ellingBuying Deciding on the proper time to purchase a security that you would like to add to your holdings can be a daunting task. If the price drops immediately after you buy, it may seem as if you missed out on a better buying fortune. If the price jumps beneficial before you make your move, you may feel as if you paid too much. As it turns out, you should not let these small fluctuations influence your decision too much. As long as the fundamentals that led you to decide on the purchase have not changed, a few points in either direction should not have a large impact on the long-term value of your investment. Similarly, the fact that an investment has been increasing in value of late is not a sufficient reason for you to purchase it. Momentum can be very fickle, and recent movement is not necessarily an indicator of future movement. Therefore, buying decisions should be based on sound and thorough research geared toward discerning the future value of a security relative to it s current price. This analysis forget probably not touch upon price movement in the very recent past. As you learn more about investing youll get better at deciding when to buy, but most experts recommend that lay outners avoid trying to time the market, and just get in as soon as they can and stay in for the long haul. The proper time to buy a security is quite simply when it is available for less than its actual value. These undervalued securities are actually not as rare as they sound. However, the problem is simply that they are never sure bets. The value of a security includes estimates of the future performance of factors underlying the value of the security. For stocks, these factors include things like earnings addition and market share. Changes can be predicted to a degree, but they are subject to fluctuation due to forces both within and beyond the control of the company. The overall economic climate, changes in the industry or even bad decisions by management can all give birth a security poised to ascend in value to become an under performer. Therefore, it is essential to practice your analysis before putting your money into action. benefit some mock purchases based on your personal analysis technique and track the results. Not all of your decisions result lead to the results you were expecting, but if most of your choices turn out to be good and there are mitigating factors that you can learn from to explain your missteps, then you may be ready to put your analysis technique and investing strategy into action. At this point, the need to continuously monitor your investments does not disappear. Both under performers and overachievers should be studied conservatively to fine-tune your strategy. You should also regularly look at your securities to make sure that the fundamentals for success that led you to buy in the commencement exercise place are intact. If not, you may need to position to cash in and start looking for the abutting oppo rtunity. One way to avoid the hassles of deciding when to buy altogether is to practice dollar- represent averaging. This strategy advocates investing a fixed dollar amount at regular intervals. The price when you first invest is relatively unimportant (as long as the fundamentals are sound) because you volition be purchasing shares at a different price each time you buy. The success of your investment then lies not with short-term fluctuations, but with the long-term movement of the value of the security.SellingThere comes a time when investments essential be liquidated and converted back into cash. In a perfect world, selling would only be necessary when investment goals have been reached or time horizons have expired, but, in reality, decisions about selling can be much more difficult. For one thing, it can be just as hard to decide when to sell as it can be to decide when to buy. No one wishes to miss out on gains by selling too soon, but, at the same time, no one wishes to wa tch an investment peak in value and then commence to decline. Investors often seek to sell investments that have dropped in value in the short-term. However, if conditions have not changed significantly, drops in price may actually represent an opportunity to buy at a better price. If the initial research, which led to the purchase, was sound, a temporary decline does not preclude the success that was originally predicted. Of course, things change, and if the security no longer meets the criteria that led to its purchase, selling may in fact be the best option. Selling may also become necessary if investment goals change over time. You may need to reduce the amount of risk in your portfolio or you may have the opportunity to seek out greater returns. Additionally, a security may have increased in value to the point that it is overvalued. This creates an excellent opportunity to cash in and seek out new undervalued investments. often you will need to make this type of sale in the c ourse of rebalancing a portfolio necessitated by gains and losses in different areas. Selling can be especially difficult when an under performing stock must be dumped. Some investors let their emotions dictate their actions and hold on to stocks that have fallen in value rather than to sell, thinking that selling at a loss is like admitting that they made a mistake. However, realizing the loss and moving on to better investments is often preferable to continuing to hold onto a loser in the hopes that it will somehow rebound. When considering any sale, you must factor in the costs of the sale itself. Fees and taxes will eat into profits, so they must be subtracted from any increases in value to understand the true impact of the transaction. Capital gains taxes are higher for gains on investments held less than one year, so its often wise to invest for the long term rather than to buy and sell quickly. On the other hand, it can be dodgy to hold an investment longer than you want to, simply to reduce the tax burden. It is essential to remember that just because an investment increases in value after it has been sold does not necessarily mean that it was sold prematurely. Managing risk and diversification are often more important than capitalizing on short-term gains in a particular(prenominal) security. Keeping in mind the initial goals for the investment and adjusting them to fit your present goals will allow you to make smarter decisions about selling.Principles of Investing1. Start Investing at a time We say this not just to discourage procrastination, but because an early start can make all the difference. In general, every six years you delay doubles the required monthly savings to reach the same level of retirement income. Another motivational statistic If you contributed some amount each month for the adjoining nine years, and then nothing afterwards, or if you contributed nothing for the first nine years, then contributed the same amount each month for the next 41 years, you would have about the same amount. Compounding is a beautiful thing. 2. Know Yourself The right course of action depends on your current situation, your future goals, and your personality. If you dont take a close look at these, and make them explicit, you might be headed in the wrong direction.Current SituationHow healthy are you, financially? Whats your net worth right now? Whats your monthly income? What are your expenses (and where could they be reduced)? How much debt are you carrying? At what rate of interest? How much are you saving? How are you investing it? What are your returns? What are your expenses?GoalsWhat are your financial goals? How much will you need to achieve them? Are you on the right track?Risk ToleranceHow much risk are you willing and able to accept in pursuit of your objectives? The appropriate level of risk is determined by your personality, age, job security, health, net worth, amount of cash you have to cover emergencies, and the length of your investing horizon.3. wank Your Financial House In Order Even though investing may be more fun than personal finance, it makes more sense to get started on them in the reverse order. If you dont know where the money goes each month, you shouldnt be thinking about investing yet. Tracking your spending habits is the first step toward improving them. If youre carrying debt at a high rate of interest (especially credit card debt), you should unburden yourself before you begin investing. If you dont know how much you save each month and how much youll need to save to reach your goals, theres no way to know what investments are right for you. If youve transitioned from a debt situation to paycheck-to-paycheck situation to a saving some money every month situation, youre ready to begin investing what you save. You should start by amassing enough to cover three to six months of expenses, and keep this money in a very safe investment like a money market account, so youre ready in the event of an emergency. Once youve saved up this emergency reserve, you can progress to higher risk (and higher return) investments bonds for money that you expect to need in the next few years, and stocks or stock mutual funds for the rest. Use dollar cost averaging, by investing about the same amount each month. This is always a good idea, but even more so with the dramatic fluctuations in the market in the past 10 years. Dollar cost averaging will make it easier to stomach the inevitable dips.And remember never invest in anything you dont understand. 4. Develop A Long Term Plan Now that you know your current situation, goals, and personality, you should have a pretty good idea of what your long-term plan should be. It should detail where the money will go cars, houses, college, and retirement. It should also detail where the money will come from. Hopefully the numbers will be about the same. Dont try to time the market. Get in and stay in. We dont know what directio n the next 10% move will be, but we do know what direction the next100% move will be. Review your plan periodically, and whenever your needs or circumstances change. If you are not confident that your plan makes sense, talk to an investment advisor or someone you trust. 5. Buy Stocks Now that youve got a long term view, you can more safely invest in riskier investments, which the market rewards (in general). This requires patience and discipline, but it increases returns. This antenna reduces the entire universe of investment vehicles to two choices stocks and stock mutual funds. In the long run, theyre the winners In this century, stocks beat bonds 8 out of 9 decades, and theyre well in the lead again. According to Ibbotsons Stocks, Bonds, Bills and Inflation 1995 Yearbook, here are the average annual returns from 1926 to 1994 (before inflation)Stocks 10.2% (and small company stocks were 12.1%)Intermediate term treasury bonds 5.1%30-day T-bills 3.7%But is it really worth the add itional risk just for a few percentage points? The answer is yes. 10% a year for 20 years is 570%, but 7% a year for 20 years is only 280%. Compounding is Gods gift to long-term planners. If you buy outstanding companies, and hold them through the markets gyrations, you will be rewarded. If you arent good at selecting stocks, select some mutual funds. If you arent good at selecting mutual funds, go with an business leader fund (like the Vanguard SP 500). 6. Investigate Before You Invest Always do your homework. The more you know, the better off you are. This requires that you keep learning, and pay attention to events that might relate you. Understand personal finance matters that could affect you (for example, proposed tax changes). Understand how each of your investments fits in with the rest of your portfolio and with your overall strategy. Understand the risks associated with each investment. Gather unbiased, objective information. Get a second opinion, a third opinion, etc. Be cautious when evaluating the advice of anyone with a vested interest. If youre going to invest in stocks, learn as much as you can about the companies youre considering. Understand before you invest. Research, research, Read books. Consider joining an investment club or an organization like the American Association of undivided Investors. Experiment with various strategies before you put your own money on the line. Examine historical data or participate in a stock market simulation. Try a momentum portfolio, a technical analysis portfolio, a bottom fisher portfolio, a dividend portfolio, a price/earnings growth portfolio, an intuition portfolio, a mega trends portfolio, and any others you think of. In the process youll find out which ones work best for you. Learn from your own mistakes, and learn from the mistakes of others.If you dont have time for all this work consider mutual funds, especially index funds.7. Develop the Right Attitude The following personality traits will hel p you achieve financial successDisciplineDevelop a plan, and stick with it. As you continue to learn, youll become more confident that youre on the right track. Alter your asset storage allocation based on changes in your personal situation, not because of some short-term market fluctuation.ConfidenceLet your intelligence, not your emotions make your decisions for you. Understand that you will make mistakes and take losses even the best investors do. Re-evaluate your strategy from time to time, but dont second-guess it.PatienceDont let your emotions be ruled by todays performance. In most cases, you shouldnt even be watching the day-to-day performance, unless you like to. Also, dont ever feel like its now or never. Dont be pressured into an investment you dont yet understand or feel comfortable with.The following personality traits will hurt your chances of financial successFearIf you are unwilling to take any risk, you will be stuck with investments that barely beat inflation.Gree dAs an investment class, get rich quick schemes have the worst returns. If your expectations are unrealistically high, youll go for the big scores, which commonly dont work.It is generally a good idea to avoid making financial decisions based on emotional factors. 8. Get Help If You Need It The do-it-yourself approach isnt for everyone. If you try it and its not working, or youre afraid to try it at all, or you just dont have the time or desire, theres nothing wrong with seeking captain assistance. If you want others to handle your financial affairs for you, you will nevertheless want to remain involved to some degree, to make sure your money is being dog-tired wisely. Initial Public OfferingsInitial Public Offerings (initial offerings) are the first time a company sells its stock to the public. Sometimes IPOs are associated with huge first-day gains other times, when the market is cold, they flop. Its often difficult for an individual investor to realize the huge gains, since i n most cases only institutional investors have access to the stock at the offering price. By the time the general public can trade the stock, most of its first-day gains have already been made. However, a savvy and informed investor should still watch the IPO market, because this is the first opportunity to buy these stocks. Reasons for an IPO When a privately held corporation needs to raise additional capital, it can either take on debt or sell partial ownership. If the corporation chooses to sell ownership to the public, it engages in an IPO. Corporations choose to go public instead of issuing debt securities for several reasons. The most common reason is that capital raised through an IPO does not have to be repaid, whereas debt securities such as bonds must be repaid with interest. Despite this apparent benefit, there are also many drawbacks to an IPO. A large drawback to going public is that the current owners of the privately held corporation lose a part of their ownership. Co rporations weigh the costs and benefits of an IPO carefully before performing an IPO.Going Public If a corporation decides that it is going to perform an IPO, it will first hire an investment bank to facilitate the sale of its shares to the public. This process is commonly called underwriting the banks role as the underwriter varies according to the method of underwriting agreed upon, but its primary function remains the same. In accordance with the Securities shape of 1933, the corporation will file a registration statement with the Securities and Exchange Commission (SEC). The registration statement must fully disclose all tangible information to the SEC, including a description of the corporation, detailed financial statements, biographical information on insiders, and the number of shares owned by each insider. After filing, the corporation must wait for the SEC to investigate the registration statement and approve of the full disclosure. During this period while the SEC inves tigates the corporations filings, the underwriter will try to increase invite for the corporations stock. Many investment banks will print tombstone advertisements that offer bare-bones information to prospective investors. The underwriter will also issue a preliminary prospectus, or red herring, to potential investors. These red herrings include much of the information contained in the registration statement, but are incomplete and subject to change. An official summary of the corporation, or prospectus, must be issued either before or along with the actual stock offering. After the SEC approves of the corporations full disclosure, the corporation and the underwriter decide on the price and date of the IPO the IPO is then conducted on the determined date. IPOs are sometimes postponed or even withdrawn in poor market conditions. Performance The aftermarket performance of an IPO is how the stock price behaves after the day of its offering on the secondary market (such as the NYSE or the NASDAQ). Investors can use this information to judge the likelihood that an IPO in a specific industry or from a specific lead underwriter will perform well in the days (or months) following its offering. The first-day gains of some IPOs have made investors all too aware of the money to be had in IPO investing. Unfortunately, for the small individual investor, realizing those much-publicized gains is nearly impossible. The crux of the problem is that individual investors are just too small to get in on the IPO market before the jump. Those large first-day returns are made over the offering price of the stock, at which only large, institutional investors can buy in. The system is one o