How to Be an Investment Banker

Recruiting, Interviewing, and Landing the Job

Andrew Gutmann

• Publisher: Wiley
• Year: 2013
• ISBN:
  9781118494363
• Edition: 1
• Topic: Economia
• Subtopic: Settore bancario

A top-notch resource for anyone who wants to break into the demanding world of investment banking

For undergraduates and MBA students, this book offers the perfect preparation for the demanding and rigorous investment banking recruitment process. It features an overview of investment banking and careers in the field, followed by chapters on the core accounting and finance skills that make up the necessary framework for success as a junior investment banker. The book then moves on to address the kind of specific technical interview and recruiting questions that students will encounter in the job search process, making this the ideal resource for anyone who wants to enter the field.

• The ideal test prep resource for undergraduates and MBA students trying to break into investment banking
• Based on author Andrew Gutmann's proprietary 24 to 30-hour course
• Features powerful learning tools, including sample interview questions and answers and online resources

For anyone who wants to break into investment banking, How to Be an Investment Banker is the perfect career-making guide.

CHAPTER 1

Introduction to Investment Banking

Tell people that you are an investment banker and you will likely get varying responses. Some will be highly impressed and may ask if they can hitch a ride on your private jet. Others will blame you personally for nearly blowing up the global economy in 2008 and for all the ills of the world that have followed. But perhaps the most frequent reply goes something like this: “Oh, you're an investment banker. Do you have any good stock tips?”

One thing is pretty certain: Ask a random person from Main Street, not Wall Street, to describe what it is that an investment banker does, and he or she will likely have no idea.

Maybe you are trying to decide whether to recruit for investment banking. How will you decide? First, you need to know what you are getting into. Will your life as a junior banker be glamorous? Will the work be intellectually challenging? Will you be well paid for all of your sacrifices? What will you learn? And where can a foundation in banking take you over the longer term?

Now, let's suppose you decide to go for it. Full steam ahead with recruiting. What's the first thing you need to do? You need to be knowledgeable—or at least sound like you're knowledgeable. You need to be able to articulate what investment banks do and what investment bankers do. There is no more surefire way to fail at the recruiting and interviewing process than to come across as naïve about the industry.

Okay, so let's say you've successfully navigated the recruiting process. You have offers—good offers. You're going to be an investment banker. Now what? Go in with your eyes open, have realistic expectations, and understand what it takes to succeed. Know what you want out of it and, most importantly, do it for the right reasons. Take this advice and your career will flourish. Don't, and you will struggle and be miserable, and your time spent as an investment banker will likely be brief.

This chapter is meant to give you a broad overview of investment banking and of what life will be like as a junior investment banker. We will begin with a discussion of the various functions of a typical large investment bank, the kinds of transactions that investment banks execute, and the different types of investment banks that exist. Next we will cover the structure of an average investment banking division and the standard hierarchy of job titles. Following that, we will talk about the actual work that investment bankers perform, and the culture and lifestyle that you should expect as a junior banker. Finally, we will wrap up the chapter with a discussion of some of the common career paths that exist for bankers leaving the industry and clear up some frequently held misconceptions about investment banking.

OVERVIEW OF AN INVESTMENT BANK

Let's start with the basics. An investment bank is an institution that provides financial advice and raises money for three main sets of clients: companies, governments, and wealthy individuals.

However, the large investment banks of the world, the firms like Goldman Sachs and Morgan Stanley, do a lot more than just advise and raise money for their clients. In other words, they do much more than just investment banking. For example, they have departments that sell and trade various securities, provide research to institutions and individuals about such securities, manage the investments of institutions and wealthy individuals, and trade the bank's own capital.

Following is a brief list of the many of the significant functions and/or divisions of a typical large investment bank. These functional areas are considered to be part of the institution's front office. Loosely speaking, that means that they are client-facing and typically revenue-generating parts of the firm. Investment banks also have substantial middle-office and back-office roles. Middle-office areas of the bank encompass such things as risk management and treasury management, whereas back-office roles include operations and information technology (IT).

Key front-office functions include:

• Investment banking.
• Sales and trading.
• Proprietary trading.
• Research.
• Asset management.
• Private banking.

As you may be aware, not every investment bank is large, and not every investment bank provides all of these types of financial services. Some investment banks indeed only do investment banking, and not trading or research or asset management. We will discuss the different types of investment banks later in this chapter.

Moreover, even the large investment banks may be just one division of a larger financial institution. Some firms provide not only investment banking services to companies but also commercial banking services. Such services typically include bank lending, money market savings accounts, and cash management. A firm that contains both an investment bank and commercial bank is often referred to as a universal bank. And even universal banks may be just a small part of a larger retail bank with a retail branch network that offers banking services to individuals, including checking and savings accounts, credit cards, and mortgages.

Key Divisions of an Investment Bank

As mentioned earlier, large investment banks do many different things. This section includes a brief description of these divisions or functional areas, and a short discussion of the lifestyle of the types of finance professionals who work there.

Keep in mind that the various divisions of banks are often structured differently from one another, and banks frequently have different names (and sometimes acronyms) for the same functions. An example of such a difference is private banking, which might fall under the umbrella of asset management at some firms and be an independent division at others. Some more poorly run banks even go through the exercise of restructuring their divisions every few years.

Investment Banking

Given that the remainder of this chapter is about the investment banking division, we will keep this section very short. Investment banking is the division within an investment bank that advises companies, sometimes governments, and occasionally wealthy individuals on two things:

1. Executing large financial transactions such as an acquisition, sale, or divestiture.

2. Raising substantial amounts of money both privately and publicly through the debt or equity markets.

Within a larger financial institution, the investment banking division is sometimes abbreviated IBD, or referred to as corporate finance or advisory. There are also plenty of standalone firms that only do investment banking. From this point on in the book, when we use the term “investment banking,” we are speaking specifically of this functional area or division.

Sales and Trading

Sales and trading is the division within the investment bank that, as its name indicates, sells and trades various securities and financial instruments. The sales and trading division is often abbreviated S&T and is sometimes referred to as capital markets or just markets.

The sales and trading division earns revenue through trading commissions and trading profits. By being both a buyer and seller of securities, it also provides liquidity to the marketplace, often referred to as market making. Over the past decade or so, a large focus of the sales and trading division has also been on inventing and structuring complex financial products (derivatives) such as interest rate swaps, collateralized debt obligations (CDOs) and credit default swaps (CDSs).

Examples of securities and financial instruments that are sold and traded by this division include:

• Equities (i.e., stocks).
• Fixed income securities (i.e., government and corporate bonds).
• Currencies.
• Commodities.
• Derivatives.

Professionals who are employed in this division work on what is known as the trading floor, an often-cavernous room taking up entire physical floors of the buildings that house financial institutions. The trading floor is segregated by financial product into what are known as desks. Individuals sit on a desk depending on what financial product they sell or trade. For example, a trader might sit on an equity derivatives desk or a convertible bonds desk.

Each desk typically has three types of personnel: institutional salespeople, traders, and sales traders. Salespeople suggest trading ideas and take trading orders from clients. These clients include institutional investors such as hedge funds and other asset managers. Traders then execute those trades. Sales traders act as intermediaries between the sales people and the traders.

Over the past several decades, the sales and trading division has become the largest front-office division of a typical large investment bank, both in terms of headcount and revenue. However, at most firms, this division has shrunk significantly over the past several years as trading revenue has declined, as more trading has become automated, and as products that were once considered complex have become standardized and “plain vanilla.” These trends have had a negative impact on recruiting, especially among undergraduates and MBA students.

The sales and trading division of investment banks have placed a large focus on increasing revenue and profits by inventing highly complex financial instruments that are not standardized and cannot be traded on an exchange. However, the hiring needs to structure and trade these kinds of products have focused on those with highly quantitative skills such as PhDs in the hard sciences, mathematics, and finance.

In general, sales and trading tend to attract individuals who are interested in the markets, have aggressive personalities, and handle stress well. The trading floor tends to be a male-dominated, fraternity-like atmosphere. Women are underrepresented, even by the standards of the finance industry. The lifestyle is intense during market hours, with traders and salespeople glued to their multiple computer monitors and phones. However, compared with investment banking, there is much more predictability to the hours. Plus, traders rarely work nights or weekends, the exception being salespeople who entertain clients. Compensation in sales and trading can be very high, even at relatively junior levels, though the compensation can be very volatile as market conditions change. Exit opportunities from sales and trading are generally limited to doing similar work at a hedge fund or other asset manager.

Proprietary Trading

One of the greatest sources of profits for some of the large investment banks over the past decade has been from trading securities with the firm's own capital, as opposed to trading on behalf of a client. This activity is known as proprietary trading, or prop trading for short. Essentially, proprietary trading is like an internal hedge fund within the sales and trading division. However, recently regulators have tried to put a stop to proprietary trading, arguing that it is too risky of an activity for regulated banks. It remains to be seen how successful regulators will be in curtailing proprietary trading since it is difficult for regulators to distinguish between trades made on behalf of a client and trades that are not.

Sell-Side Research

Sell-side research departments produce the fundamental research and analysis of industries, companies, economies, and related securities such as stocks, bonds, and currencies. The largest division within the research department is typically equity research, where analysts are responsible for covering the stocks of companies within a specific industry. Research analysts produce reports with detailed analysis, earnings forecasts, and commentary about the companies that they cover. They also often issue buy and sell recommendations, and come out with price targets on the stocks of those companies.

Research departments have two main sets of clients: internal and external. Internal clients are those that are within the bank, such as the equity sales and trading department. External clients are those that are outside of the bank, namely institutional investors such as hedge funds, pension funds, and mutual fund companies. Individual investors are also considered to be external clients.

Historically, many research analysts acted as investment bankers, helping to market their firm's mergers and acquisitions (M&A) and capital raising services to senior management of the companies that they covered. However, after the dot-com bust of the early 2000s, regulators tried to put an end to that practice, citing the inherent conflict of interest between independent research and investment banking. This has resulted in shrinkage of the equity research departments at most large investment banks and generally lower compensation for research analysts. Now that analysts cannot act as investment bankers, research is thought of as more of a cost center than a revenue generator. Research analysts are under significant pressure to cover a great number of companies and have strong relationships with institutional investors who will place trades with the bank, an activity that does generate revenue.

Equity research analysts have a similar skillset to investment bankers, and, in fact, some research analysts do make the switch to banking and vice versa. Like investment banking, research requires finance, accounting, valuation, and financial modeling skills. However, research analysts generally have more in-depth knowledge of the industry and companies that they cover than do bankers. In addition to the reports that research analysts publish, and the financial models underlying those reports, analysts spend time meeting with management, attending industry conferences, and meeting with and talking to institutional investors such as hedge funds.

Equity research tends to attract individuals who like to follow the stock market, enjoy fundamental research, and have an interest in a particular industry. The stress level is high, though not at the level of trading, and hours are long, though not at the level of banking. However, life gets very challenging during earnings seasons, when there is intense pressure to publish reports following each covered company's earnings release.

Chinese Wall

Before we move on from our discussion of equity research, there is one additional topic worth mentioning: that of the Chinese Wall. Within an investment bank, a Chinese Wall is a separat...