Investment banking involves raising capital for individuals, corporations, and governments, as well as giving advice on mergers, acquisitions, and corporate restructurings. Organizations hire investment banks to assist with complex financial transactions, such as securities underwriting and debt issuance, as well as to ensure that all regulatory requirements are satisfied.
What is investment banking?
Unlike retail banks and commercial banks, investment banks don't take deposits. Investment banking refers to a variety of financial-related services that can be provided to individuals, corporations, and governments. In a nutshell, investment banks facilitate and assist with large or complex financial transactions, most of which can be classified into one of two categories: mergers and acquisitions (M&A) or corporate financing.
For example, a major financial function of investment banks is to raise capital. If a privately held company wishes to complete an initial public offering (IPO), it hires an investment bank to underwrite the company's newly issued shares. The investment bank would buy the shares from the company and sell them on the open market, essentially acting as a middleman.
In the United States, Goldman Sachs and Morgan Stanley are major investment banks, although many other financial institutions engage in investment banking activities in addition to their retail and commercial banking operations.
Products and services offered by investment banks
I already mentioned that investment banks help organizations raise capital. This can include equity underwriting, such as an IPO or a secondary offering, and can also include raising funds through a debt issuance (bond underwriting). Investment banks assist with pricing newly issued stocks and bonds, and they can ensure that the issuance complies with all applicable regulations.
In addition, investment banks advise companies on mergers and acquisitions, which can include negotiating with an acquisition target or dealing with bidding entities. The investment bank may identify and analyze the risks of a potential deal and then inform their client of the findings. Other possible M&A services can include defense against activist investors, spin-off advice, and corporate restructurings.
In addition to these main functions, investment banks may also engage in:
- Securities research: Investment banks' securities research teams analyze companies and issue reports about them as investments. Generally, this involves some variation of a "buy, sell, or hold" rating system.
- Proprietary trading activities: Investment banks' traders engage in market-making, buying and selling financial products with the goal of profiting from each trade. These products can include stocks, bonds, and derivatives.
- Investment management: Investment banks often offer a variety of investment products and advisory services to both institutional clients and high-net-worth individuals.
Other types of banking
In addition to investment banking, there are several other types of banking:
- Retail banking: This is what most people think of when they hear the word "bank." Retail banking refers to any banking services that are intended for everyday consumers. This includes checking and savings accounts, credit cards, mortgages, auto loans, CDs, and more.
- Private banking: Similar to retail banking, private banking refers to banking and financial services provided to high-net-worth individuals. Private bankers provide financial and wealth management services on a much more personal level than traditional retail banks, which is why it can be considered a separate type of banking.
- Commercial banking: Commercial banking refers to financial services provided to the corporate or institutional world. Many of the products offered by commercial banks are similar to those offered by retail banks, such as savings and checking accounts, but commercial banks may also offer things like foreign trade services, treasury management services, merchant services, and more.
This article is part of The Motley Fool's Knowledge Center, which was created based on the collected wisdom of a fantastic community of investors. We'd love to hear your questions, thoughts, and opinions on the Knowledge Center in general or this page in particular. Your input will help us help the world invest, better! Email us at email@example.com. Thanks -- and Fool on!