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Chapter 13 and Chapter 14 - Part I - Investment Banking.

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Presentation on theme: "Chapter 13 and Chapter 14 - Part I - Investment Banking."— Presentation transcript:

1 Chapter 13 and Chapter 14 - Part I - Investment Banking

2 What is Investment Banking 20 th century term, in 1930 th Refer to business of helping other business creating securities. – Issuing stocks – Issuing bonds – For corporation, government, or non-profit orga. Share similarity with consulting firms Differ from commercial banks – Not taking deposits, not making loans 2

3 What does Investment Banking do? Underwriting: IB knows who are potential buyers of those securities. – IPO first sale of securities to the public. – Seasoned offering additional issue of securities already trading. – Bought deal: IB bought shares and sell in market – Best efforts: IB did not buy but give best efforts IB solves moral hazard issue – IB is familiar with the new company and do due diligent – Trust is very important in this business – IB bankers are usually well spoken and well dressed. 3

4 IB history in US In 1933, Glass-Steagall act separate IB and CB – A bank had to be either IB or CB. – IB was perceived risky and CB was safer. – JP Morgan was doing both and chose to be IB Called “Morgan Stanley”, the 2 nd largest IB in US, after Goldman Sachs. – FDIC was created on this act. – FDIC Covers Those Deposits Payable in the U.S. – 4

5 Glass-Steagall Act Separated CB and IB in the U.S. The Glass-Steagall Act of 1933 (Banking Act) restricted the asset powers of commercial banks to low-risk underwriting areas. In other countries, universal banks were able to combine commercial and investment banking functions. 5

6 The Glass-Steagall Act (continued) CB could not underwrite (buy and resell) risky business securities. CB were limited as to the risk assumed in their investment portfolio - no risky corporate securities. IB firms were prohibited from engaging in CB. Firms became either IB or CB. 6

7 U. S. versus Other Developed Nations Until 1999, investment banks in the U. S. could not do commercial banking activities and vice versa. Outside of Japan, in most other developed nations, financial institutions are allowed to do both investment and commercial banking. – Engage in deposit taking, making loans, brokerage, securities underwriting, and insurance. 7

8 Gramm-Leach-Bliley Act – Before Financial Crisis Financial Services Modernization Act of 1999 Repealed Glass-Steagall – So banks can do risky investment because they are IB – But meanwhile, they are insured by FDIC, because they are CB – Seeds of crisis were planted from then. Permitted CB, IB, and insurance underwriting under a financial holding company So US banks can compete globally. 8

9 Dodd Frank Act 2010 – After Financial Crisis Section 619: Volcker Rule – Prohibit proprietary from trading by CB – Prohibit CB from owning hedge funds and private equity. Section 716 – Swap dealers are barred access to Fed discount window Prevent banks from dealing with swap. Goldman Sachs shut down prop trading. After implementing Dodd Frank act, GS is not the old GS anymore. 9

10 Other functions of IB - Trading and Brokerage The brokerage function is to bring a buyer and seller together. Dealer function - buying (bid) and selling (ask) from an inventory of securities owned by the seller. 10

11 Other functions of IB - Mergers and Acquisitions Specialized IB departments provide the following services. – Arrange mergers which would produce economic synergy or increase total value. – Assist firms in fighting hostile takeovers. – Help establish the value of target firms. Mergers and acquisitions have been a profitable aspect of the IB business. 11

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