What Investment Bankers Do - dummies

By Matt Krantz, Robert R. Johnson

Part of Investment Banking For Dummies Cheat Sheet

To most people, investment banking is a big mystery — they know it’s important, but they aren’t really sure why. On the other hand, there’s no mystery about what traditional banking is. Just about anyone with a savings account has, at some point, walked into a bank and looked around. But investment banking is an entirely different matter.

It’s easy to write off investment banking as something a bunch of people in suits can worry about, but that’s a mistake. Increasingly, more Americans are being handed the keys to managing their financial futures. It’s up to consumers to find ways not just to save their money but to invest in assets that will grow in the future. And more times than not, this process requires interfacing with investment bankers and their products.

Given how important investment banking is to how Americans save and invest, it’s critical to understand what investment bankers do and the role they play. Traditional banks are easy to understand. They take in deposits from consumers and businesses, and then lend out the money to companies or consumers. But the duties of investment banks are quite different. Instead of taking deposits, investment banks sell securities. The proceeds from selling these securities, in some cases, then go to finance usually massive projects that might be too risky for traditional banks. Projects investment banks take on often fall into one of several categories, including the following:

  • Financing large projects: Massive projects, such as building giant bridges or power plants, usually require enormous amounts of cash up front. These projects may ultimately make money, but they require loads of cash to be built. The need for upfront cash is so great, it may outstrip the lending capacity of traditional banks, or it may be too risky for traditional banks. That’s where investment banks can come in. Investment banks gather cash by selling securities to investors with excess money looking for a chance at a good return.

  • Selling companies: It takes money to make money, an adage well known by most entrepreneurs. Many successful companies start off being bankrolled by the owners’ credit cards or savings, but at some point, that’s not enough. Entrepreneurs may turn to banks for loans, but those deals can be hard to get or carry high costs. The answer for many companies looking to expand is an initial public offering (IPO). In an IPO, the company sells itself to the public. The investment bankers are critical to this service, lining up investors and finding companies eager to sell securities to the public.

  • Conduct mergers and acquisitions: There’s usually a point in time when companies start looking over their shoulders for opportunities. A promising startup with interesting technology may fit nicely with another company’s products. Instead of pouring the money into developing a similar technology, which can be costly and risky, a company may ask its investment bankers to help it buy the company outright.

  • Offering asset management and brokerage services: Investment banks are in the money business. One of the things they do is collect money from clients — and help those clients put the money to work in a way to generate returns. Helping clients manage their money, either by selecting individual stocks or by putting them into a mutual fund, is part of investment bankers’ services.