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spikegifted - 'three things i like about investment banking' & 'why work for investment banking'

 

I was just going through spikegifted.net's stats page on the hosting server and I decided to take a look at how people ended up looking at this site through the search engines. There are the usual collection of computer related phrases like 'dual display backgrounds' and some hardware. However I spotted three rather interesting search strings (highlighted below):

The two that particularly caught my eye were the two mentioned in the title: 'three things i like about investment banking' and 'why work for investment banking'. These are questions that anyone who has spend a reasonable length of time in our industry would ask. So I decided to write something about them... Finally, there is the topic of 'investment banking pitch', which in itself is a fascinating subject, for it makes up the lives and work of my investment bankers.

I think it is important to try and understand what investment banking ('IB') is before figuring why it is great to work within it.


So what is investment banking? Well, IB can be all things to all people. According to the text books, IB is a "form of banking done by firms for corporations, often in exchange for fees and commissions. The bank performs public offerings, acts as a broker, and carries through mergers and acquisitions." So, in another word, "assist corporations in raising funds in the public markets (both equity and debt), as well as provide strategic advisory services for mergers, acquisitions and other types of transactions." Over time, though, IBs have come to offer a wider range of services than just raising capital and advising large corporations - like asset management and wealth management. Some of these newer activities are not strictly related to investment banking, so we're not going count them as part of the IB world. However, there are other activities that have come about that are not 'visible' to people outside IB, but is an integral part of the IB world. I'll touch on these areas should the need arise.

 

While the 'glamorous' people in IB (like the corporate bankers, star analysts, chief traders, etc) are the 'visible' part of IB, the world of IB consists of all kinds of people. Just think, it may be the general who stand in front of the cameras telling the world the progress of operation, there is an army behind him to allow him to achieve the progress. Likewise, in IB, behind the 'visible' folks, there are the unknown soldiers who do the longs hours and hard work to allow the 'visible' folks to show the world how rich they're and 'powerful' they apparently are. This appears to be very bitter and cynical, but that is just putting a balance on things - for every one successful banker (a 'visible' investment banker), there are hundreds who earn only a small fraction of the salary you'd like to earn but have such long hours that they don't have a chance to spend the money anyway.


Three things I like about investment banking:
 

Ok, now that I've brought you back to reality, I can tell you why I like investment banking. The title is "Three things I like about investment banking", so I'll try to find three things to convince anyone who are looking to find a career within the world of IB.

 

1) It is relevant... First of all, forget all the proprietary stuff - ie. all the trading that are done simply to make money for the bank itself. We're talking about everything else that an investment bank will do to earn its fees - trade in foreign currencies, bonds, equities (and other equity-linked products), derivatives, making loans, issuing capital market products, etc - they can all be traced back to as products and services that service the banks' clients. That is it - it really is that simple. There is no other purpose. And what are the reasons that the clients would want to hire a bunch of overpaid bankers to do? There are four very simple motivations: to obtain funding (either via equity or debt), to invest their money (by putting it into equity, debt, currency or even gain exposure via derivatives), to hedge the risk (using derivatives of one kind or another) and, finally, to hide something (either tax from the tax authorities, profits from the shareholders or regulators, or their management mistakes from the rest of the world). There might be a lot of activities and a lot of market talk on the trading floor or in corporate finance area, but when you identify the motivations that drive these activities, all of it becomes very simple. Believe it or not a lot of principles and methods that are evident in IB also apply to other principally non-financially related industries. If IB seems like a world on its own, think again! If you can't see the relevance, it's not because it's not there, but only because you haven't connected them.

 

2) It is exciting... For the simple thrill of talking about millions or even billions of dollars, euros or pound, investment banking is only industry where you'd even associate such amounts on a regular (often daily) basis. We are talking about a lot of money here - so much that often not even those at the top of the IB ladder will personally own. On the other hand, it is even more staggering that there are companies that need and can raise that kind of money or there are clients who have that kind of spending power. You'd hear about a government spending a few millions on certain policy initiative or a few tens of millions on certain projects, yet a small currency desk will probably have several tens of billions going through its books on any given day. Some people lose sight of the fact that every last penny of those money belongs to some real people who either invest directly or indirectly into the companies' equities or debts, but that what it is - people's money. You and I probably will never own that much money. However any group of us, given a group large enough, can have that kind of economic power. This also means that losing that kind of money affect real people's lives, sooner or later. It is power but also a responsibility.

 

3) It is an education... Banking is an industry that is forever changing - investment banking changes even more rapidly than the rest. Investment banking is a 'knowledge industry' - the only real difference between those in the industry and those outside the industry is the knowledge they have. That sounds stupid, because everything is essentially based on knowledge. However, can anyone qualitatively distinguish between a fresh grad from one who has just completely the one-year training inside an IB? Finance is an industry that is conceptual and knowledge of the concepts and understanding of how these concepts function in the 'real world' is the difference between those who work within it and outside it. There is something that is commonly described as 'institutional knowledge', which is broadly speaking the knowledge gain and retained within a given institution. A corporate banker with particularly good knowledge of a group of companies within an industry will become a particularly prized asset for the competing institutions. A salesperson with good relationships with a group of investors will be valued addition to a bank which has the 'upstream' (meaning origination) capabilities but lacked the 'downstream' (read: sales) output. Salomon Brother, for a good few years during the 1980s were the only bank that has US mortgage bonds capabilities and enjoyed excellent revenue from that particular section of the bond market (for further details, see Liar's Poker by Michael Lewis). However, once the pool of talented traders left the bank for others, the other banks caught up rapidly. Knowledge is a very simple thing - it can be gained retained by an individual and organization benefit from it (gaining an competitive advantage); once the individual leave for another organization, others can utilize the individual's knowledge and catch up with, hence the original organization loses its competitive advantage. To maintain an investment bank's competitive advantage, the teams have to constantly innovate and push the boundaries of existing products and develop others to suit the clients' needs. ING Bank, during the mid-1990s enjoyed particular success in various trade finance-related markets in the newly opened up former Communist-bloc because it managed to find things in those resource export-orientated companies as collaterals for the loan the bank was willing to provide. In the end, those trade finance relationships developed to full fledge investment banking relationships (including syndicated loans, treasury services, ADR IPOs, domestic and international bond issues, etc). A typical new recruit into an IB will find a very steep learning curve, which is understandable as you have to overcome a language barrier and to fully comprehend the conceptual foundations of the work involved. However, once that learning curve is surmounted, the knowledge flow will slow. You may not learn as much and as quickly as the beginning but after weeks and months, you'd realized that you've gained a lot. This is called experience. With knowledge and experience, you can achieve a lot.

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Investment banking pitch:

An investment banking pitch is probably one of the most powerful/useless piece of marketing the investment banking community has come up with. It can vary between half a dozen pages up to and several tens of pages. No matter how many pages they have, all pitches contain the following all or most of these sections:

 

- Introduction: We know you and we know you well. We know your company is doing well/in trouble/looking to acquire/hoping to defend/seeking to expand/considering divestiture/etc (pick one and delete as appropriate) and we're here to help you.

- The IDEA: Since we know you so well, we have a solution just for your company which will (as if by magic) solve all your worries.

- The market: To demonstrate how well we know our market, we're going to tell you what's happening in the market place. Of course, anyone can analyze the market place and come up with the same or different conclusion to us, so we're going to use all our analytical prowess to come up with a solution that suits both the current market condition and your company's needs.

- Process: As you're experts of your field, we won't expect to necessarily know how investment banks function, so we'll tell you our process. Of course, as with any process, this is subject to a lot of conditions, like how quickly you can supply with information that you don't necessarily want to tell the rest of the world or the condition of the market place. Basically, don't take this overly seriously as it is only indicative.

- Credentials: How can a pitch be complete without the firm's credentials? In this section, you'd find your bank's track records working with companies in similar industry sectors for all kinds of deals, all the deals in the product(s) that is being presented to you and, of course, no credentials will be complete without the obligatory league tables. Basically, by the time you reach the end of the credentials section, you'd be wondering why the competitors of your investment bankers even bother to be in the market at all.

 

In the end, your client should be so impressed by the pitch that he'd give your investment bank the all important mandate without thinking twice. In fact, that is not the case. That's because there are other investment bankers out there who would want your client's business as much as you do and they also have their impressive pitch books. If a company is known to the market that requires investment banking services, the finance director (or any senior management type person) would have been 'courted' by anything up to a couple dozens of investment banks, with each showing up equally impressive pitches. These guys will have a lot of material to go over.

 

The above appears to be rather cynical view of the investment banking pitch, but that is not necessarily so. Pitch books are there for a purpose - to win new businesses. They act as a great way to inform your existing and potential clients of capabilities that they may not be aware of, they demonstrate how well you know about your market and, once in a while, they contain little gems of ideas that will help the clients in further their business needs.

 

You should never underestimate your clients nor your competition. It is difficult to come up with innovative ideas what serve your clients well, but it is even harder to present your ideas that in ways that are refreshing to your client. Never forget that just because you've thought of the ideas, that doesn't automatically mean you'd get the deals. A lot of the times, the clients have probably made up their minds who the bankers they're going hire, convincing their need to hire you probably require less of the bank's track record than a very clever idea that will save the client money.

 

It is not enough to overwhelm the clients with 'tombstones' and league tables. They don't really care what you've done in the past of other people. What is most important for them is a deal that will work for them and how well your bank will service for them. These are the important things in put in the pitch books. Of course, there are people who hire bankers purely on the basis of track record and market reputation, others rely on existing relationships. The truth is: There is no one single formula that will work for every client. It is like the old saying: 'different horses for different courses'. The pitch is not the be all and end all, it is all but one of the tools used to gain a client. Remember that.

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Why work for investment banking:

That's a very good question. Since the 1990s, the investment banking community came under increasing level of public scrutiny.

- During the height of the globalization debate, investment banks were seen as the evil financiers either helped or participated in the draining the hard-earned savings of the poor workers of developing nations.

- During the US and European accounting scandals, investment banks were seen, again, as the evil financiers who helped fraudulent companies and their executives to fool investors and the financial markets into lending them huge amounts of money, which the companies had no hope of repaying.

 

Complaints against investment banks have been going on for a long time, at least since the 1920s-30s, when investors lost a great deal of money as a result of the global stock market crash. However, it is a basic requirement to understand that investment banks are there to allow investors to take risks. Normal, conventional, banking simply allow the kind of activities that can support the very large-sized companies to obtain the kind of finance they need. Additionally, the risk appetite of the average saver is not sufficiently high to allow the banks to lend the money to risky companies and ventures. The world as we know it simply cannot function without investment banks. Allow me to illustrate several examples in the form of types of transactions:

 

(Pre-)Export finance (lending to companies secured on export receipt or delivery of goods or materials) - This is good old fashion corporate banking that is now usually associated with investment banking. The concept is very simple and it works effectively for both lenders and borrowers. The borrowers requires financing to complete given tasks or orders, but find it difficult to raise the finance at rates that are affordable. The lenders takes the small risk of the goods or services not being delivered, but their loans are secured (and have the first calls) against the proceeds of the sales. Without this type of financing, many companies in the developing countries will not have the necessary financing to complete big international orders. By providing this kind of 'secured' loans, investment banks facilitate the internal developments of the developing countries.

 

High-yield bonds (the 'high-yield' market is what was formerly know as the 'junk bond' market back in the 1980s) - Now, here's an interesting question: Would you lend your money to an 18-year old with a bright business idea that may or may not work? Now, there's nothing wrong with an 18-year old neither is there anything wrong with an idea that may or may not work. However, putting them together, any lender will feel a little shaky about it. To add to that, the 18-year old tells you honestly that for the first 3 years, he doesn't expect to make a profit, but should just about break even in year 4. He wants you to lend him money for three years, at an attractive interest rate and some very strict operating triggers. Would you lend him the money? This is not everyone's idea of a sensible investment. Yet, it is the job of investment bankers to find those who have just the right kind of risk appetite to lend to such high risk ventures. Progress and innovation are risky things and it is finding the right investors to finance the right opportunities that we see the fruits of their ideas.

 

Defense advisory (advise given to companies to fend off hostile takeovers) -  Imagine you've worked long and hard for a company and you've no intension in selling out. Then you suddenly discovered that someone is attempting to buy you out, without consulting you, claiming that they can do a better job than you can. How would you feel? Well, never mind how you feel, what would you do? That's the job for the corporate finance advisory folks. These folks will go through your company's positions in details and figure out the strength and weaknesses of your buyer, and come up with a solution. Just like any medicine, fixing this in a hurry will probably cause a little bit of unpleasantness, but at the end of the day, you company's independence will be secured at least for now. It is up to you to make the whole thing work again.

 

Hedging and derivative transactions (buying protection against market movements and selling protect to add exposure) - Traditionally, insurance is bought from insurance companies who analyze the risks involved an provide the person or company cover at a premium. If you don't like the quote, you can go to another insurance company and then another one, until you get the best quote you think you can find. However, with the development of risk management and the financial markets in general, there are far more specific things you can insure against. Given a typical company can have up to half a dozen types of risk it is exposed to, it is potentially possible to cover many of these risks through the financial markets. Moreover, because these insurance markets have many participants with varying degree of risk appetite, in their roles as intermediaries, investment banks can match buyers and providers of protection far more efficiently than the buyers and sellers going out to find their own match.

 

The above examples are just a few that come immediately to mind. Investment banks perform a key and vital role in the financial and investment communities, and their roles will only grow in the future as markets mature and usage of products become more widespread. It is easy to blame investment banks for the ills of markets and it is certainly easier than to understand the underlying problems which causes market dislocations. However, if the users of financial markets instruments actually try to understand the most basic properties of the products they buy into, they can benefit substantially from the products and services that are provided by investment banks.

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