What is Investment Banking? – An Overview

Seep Gupta

22 Feb, 2023

As the name suggests, investment banking acts as an intermediary or as an interconnecting link between a security issuer and an investor. Investment bankers help individuals in raising capital and funds by providing financial consultancy and services to them. This article provides a detailed overview of investment banking, the roles and responsibilities of an investment banker and the challenges an investment banker faces.

History of Investment Banking

The history of investment banking is not new to India. It can be traced to the early 19th century during the time of the Britishers when the first European merchant bank was opened in India. Since then, so many foreign banking are investing and trading in India. In the 20th century, with the establishment of an imperial bank of India, which later converted into the State Bank of India in 1955, for the first time, it started offering underwriting services for the public offering of securities.

Imperial Bank of India (now State Bank of India) became the first bank in India to offer merchant banking services. By the post-independence era, the investment banking industry in India saw tremendous growth and success with the establishment of several domestic and international foreign investment banks.

By the time of 1990s, during the globalisation decade, the Indian government opened up the financial sector because of the significant growth of the industry and also to deal with the influx of rapid global investment. To regulate the further growth of the investment banking industry, an association known as AIBI or the association of investment bankers of India, was created.

It was made to ensure that the investment bankers comply and adhere to the banking regulations and provisions and also to keep their activities in check. AIBI’s (Association of Investment Bankers of India) main goal and purpose is to ensure that the members of this association strictly comply with all the mandatory legal and ethical guidelines. It also helps in the promotion of the investment banking sector in India and also safeguards the business interests of its members.

Functions of an Investment Banker

Investment bankers perform several complex functions in their day-to-day work. These functions are given below:-

• Helps in Initial Public Offerings
  The main function that an investment banker performs is offering IPO or initial public offerings. IPO is a type of public offering wherein a company or an organisation hires an investment banker to issue an IPO. The investment banker helps in preparing the financial statements in the underwriting agreement for the issuing of public offerings. IPO is one of the major functions that an investment banker does.
• Mergers and Acquisitions
  Merger and acquisition is a type of corporate strategy of merging two companies or acquiring another company or organisation under a particular company. For doing M&A, companies usually hire an investment banker to build further strategies for an effective merger and acquisition. Investor bankers also help companies to raise funds and capital for M&A. In brief, investment banking provides strategic merger solutions, especially to small companies or organisations.
• Risk Management
  Investment banking helps a company in risk management in case of financial losses or financial crises. It also helps the company to recognise the loss area where the potential of financial risk is maximum. In investment banking, several types of risks are controlled and managed by setting a limit. These limits are business risks, investment risks, legal and compliance risks and operational risks.    
• Merchant Banking
  Investment bankers are also indulged in the practice of merchant banking. They provide diverse corporate advisory and consultation regarding issue management, financial and marketing matters and also on managerial matters.
  Investment bankers act as financial engineers for businesses and for their clients. They help in raising finance and capital for their clients, act as brokers in the stock exchange^[1], help in leasing services, helps in handling government consent for industrial projects, manage the public issue of a company, and provide special assistance to small companies, businesses and organisations etc.
• Research
  The equity research is one of the primary and major functions of an investment banker. Investment bankers research every aspect of the company and also rate the company. This rating helps investors decide whether to invest in a particular company or not. Research also tells whether to buy, sell or hold any investment in a company based on the ratings assigned to it. Ratings also tell about the worthiness of a company. The higher the rating, the more attractive the company is in the eyes of potential investors. Research can be done in various ways by an investment banker. It can be done by compiling and analysing previous years’ companies’ performance reports and various other company reports.
  This research analysis can be of varying types, such as equity research, fixed income research, macroeconomic research, qualitative research etc. Investment bankers, after the research analysis, share these research reports with the clients, which helps an investor to generate profits via trading and sells.

Challenges in Investment Banking

There are several challenges in investment banking. These challenges can be both threatening and complex. Investment bankers need huge persistence and determination to overcome these challenges. Some of these external challenges, such as market instability after the covid 19 pandemic. Some of the changes that modern investment banking faces are listed below:-

• Dearth of Capital Resources and Funds
  Covid 19 pandemic has resulted in market instability and has created recessions and disrupted economic stability all across the world. This has resulted in the scarcity and dearth of capital resources. Companies are hesitating to invest their money in the shorter run. Companies are in saving mode.
  The main job of an investment banker includes allocating capital resources equally, and if there is lesser capital, then this will affect the job of an investment banker, which will lead to a prolonged period of recession. This is one of the major challenges that investment bankers face, and overcoming this challenge is certainly not a cakewalk.
• Dire Need for Reduce Costs
  Due to cut-throat market competition and market instability, companies are facing shrinking margins, and the prices of goods are going down because of this. Because of reducing costs, investors hesitate to invest their money in a company or an organisation because of the fear of losing money. Because of these reduced costs, investment bankers are not able to strike a perfect balance between the needs of investors and corporations; this is creating a challenge for investment bankers.
• Increased Regulation
  Increased regulations and stricter controls by the finance industry have limited and curbed the powers and operations of investment bankers to a greater extent. Adhering and complying with these mandatory regulations are further adding costs to it. Separate departments are needed to be made to ensure that the investment banks are properly complying with all of these regulations.
  These stricter regulations have made the services of investment bankers more expensive and less competitive.
• Technological Disruption
  In the past few decades, technologies have advanced a lot, lot of technological advancements have taken place. Fintech companies are in vogue now. These companies are providing investment services that are as same as the services provided by the investment bankers at a very low rate. This access to technology has ensured raising capital by the fintech companies at a very lower rate.

Conclusion

This article gave a detailed overview of investment banking, the roles and responsibilities of investment bankers and the major challenges faced by investment bankers. Investment banking has huge potential and, if invested correctly, can yield significant results.

Also Read: Capital Market & Investment Banking: Future Prospect