You’ve probably heard about investment banks such as Goldman Sachs, Morgan Stanley, and Credit Suisse in the news. But do you know what investment banks actually do? It’s not a straightforward thing to explain, but let’s start by stating that it’s not investing, nor banking. Investment banking is really the raising of capital (money) on behalf of clients by buying and selling securities. A security is something that represents a monetary value, such as a stock or bond.
In the structure of a typical investment bank, you’ll find the roles are broken down into three categories, or places within the bank: the front office, middle office, and back office. The front office is really the face of the bank, they are the ones that have the most interaction with clients and actually perform the transactions. The middle office watches over the front office, making sure that they are not taking too much risk with the bank’s capital and that all regulatory rules and compliance procedures are followed. The back office handles the support roles such as making sure the numbers are correct on all trades, as well as IT and assistant duties.
Let’s look into each section more clearly – you didn’t really think you’d be able to understand what an investment bank is in two paragraphs, did you?
The front office probably has the most variation in terms of roles. In this space sits:
- Corporate finance: These are the people who assist companies in how to make financial decisions that will enhance the value of their company. This can include helping to manage investments or even suggesting a mergers and acquisitions (M&A) strategy. In this instance, the corporate finance people at the investment bank will help the M&A deals go through.
- Sales: Salespeople are tasked with speaking to their various clients, suggesting trades for them, and communicating orders to the sales desk. Salespeople can deal with individuals, companies, investment funds, and even hedge funds. All of their clients are called the “buy side” because they are the ones buying the securities. The investment banks themselves are considered the “sell side” because they are the ones that are selling (pretty straightforward but for more information see: The Sell Side vs. the Buy Side).
- Traders: Traders, of course, make the trades based on the orders from the salespeople and clients. But traders don’t just do what they are told by the salespeople! A trader’s main aim is to keep the investment bank liquid, so they will also perform trades where they make some profit on the spread. This means that they will buy (bid) a security at one price and sell (ask) it for a higher price, keeping the gain from the bid-ask differential.
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Research: This is also considered a front office function. Basically, researchers research! They read tons of data, articles, and anything else they can get their hands on to help salespeople and traders make good calls about the markets. They also use their data to suggest trades and help guide the direction of the investment bank.
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Like the name suggests, the middle office bridges the gap between the front and back offices. These are the kinds of roles that look into what is going on in the front office and makes sure it’s not negatively affecting the bank overall. The middle office is comprised of:
- Risk management: The biggest part of the middle office is probably the risk management team. These people make sure that the traders are not taking too much risk and that they’re not doing things like leaving their positions exposed overnight. Risk people also have the ability to cap how much traders can actually trade, if they feel that they are taking on too much risk.
- Compliance: Another important role in the middle office is compliance. This should not be overlooked as investment banks are now being scrutinised more than ever, and making sure every trade is done by the book is just as important as making money.
The back office consists of all of those nitty-gritty roles that keep the place running smoothly. This includes:
- Operations: The operations people are the ones who check over every trade to make sure the numbers are correct and the trading desk has bought or sold what they were supposed to (if the trade was to buy USD but instead the ticket says selling USD, well then, you’ve got a problem). These are the editors and the proofreaders who make sure the execution is flawless.
- IT: Another increasingly important role in an investment bank that is considered part of the back office is the IT department. No longer just fixing desktops that are slow, IT departments in investment banks are now in charge of complex computer models, trading platforms, and communications systems. And not only the upkeep is important, but also the security of those systems. If any sensitive information gets out, it could spell real trouble for the bank.
Investment banks deal with a wide range of financial instruments and clients, and therefore have tons of different roles to fill. The work is high-pressure and days can be extremely long, but it can also be satisfying, interesting and the paycheck usually makes all that hard work worth it.
Download your free copy of our guide: An Inside Look at Investment Banking.