What Is Investment Banking?
Investment banking is the practice of aiding corporates, governments and other large organizations in raising capital through securities offerings. This process includes identifying risks, projecting earnings projections and compiling documentation required by the Securities Exchange Commission (SEC).
Companies typically use three methods for raising capital through securities: public cash offerings, private placements and leveraged financing.
Capital Markets
Capital markets are an integral component of the financial industry that provide businesses and individuals with ways to raise capital for various needs, including bonds, commercial paper and asset-backed securities.
Investment banking services such as this provide companies with the necessary financing they require for growth and development, while helping to manage risk effectively.
The market connects individuals and institutions who offer funds, like households and banks, with users such as businesses expanding or governments funding infrastructure projects. Providers include pension and retirement funds, insurance companies and nonfinancial companies that generate extra cash flow.
Capital markets can be divided into primary and secondary markets. Primary markets sell new issues of stock and bonds to investors while secondary markets trade existing securities; both markets serve to channel savings and investments from suppliers to users.
Structured Finance
Structured finance is an innovative form of corporate financing used by corporations to meet complex financial needs that cannot be satisfied through traditional funding tools, like loans. If an expanding or newly established business needs financing to expand into new territory or start new endeavors, structured finance instruments like collateralized debt obligations (CDOs) and credit default swaps could provide the answer.
Financial engineering techniques are used in this type of finance to meet very specific requirements, which may involve high risks that must be assessed carefully.
Structured finance works by pooling assets such as loans and mortgages into tradable securities that can then be sold in capital markets to investors looking for higher returns than typical loans or mortgages can offer.
Structured finance is typically employed by large corporations with complex needs that cannot be satisfied through conventional financial instruments such as loans. Pooling assets into structured products allows these corporations to meet various financial goals such as off-balance-sheet securitization, regulatory capital requirements management and increased access to alternative asset funding sources.
Debt Markets
Debt markets provide companies and governments with an opportunity to sell debt securities such as bonds to investors at fixed payments, usually including interest payments.
Investment banking specializes in debt issuances; in particular, its Debt Capital Markets (DCM) group oversees every aspect of a bond’s lifecycle and advises issuers such as corporations, sovereigns, municipalities and supranational organizations.
Bonds are among the most prevalent debt investments, issued by corporations and governments to raise capital for operations. They usually carry fixed interest rates with no security available unless real estate or other collateral is pledged against.
Securitized debt instruments – like mortgage-backed securities and collateralized debt obligations – represent another form of debt financing, where multiple loan packages are packaged together and sold off to investors who then earn interest off any payments made by borrowers in their pool.
Equity Markets
The equity market (commonly referred to as “the stock market”) is an exchange that provides companies with a way of raising capital for expansion and research purposes, as well as offering investors ownership rights in return for their investment by giving them ownership stake in their company in return for shares of its equity.
The market can be broken into two broad segments, the primary and secondary markets. The former serves as the platform for initial public offerings (IPO) of shares; while secondary trading may then occur.
Initial Public Offerings (IPOs) are the traditional method by which companies sell shares to investors for the first time, but other forms of raising capital could be explored such as follow-on public offerings and rights issues.
Equity market participants include brokers and dealers. These financial intermediaries serve to match sellers with buyers of stocks in an orderly and safe fashion.