INVESTMENT BANKING (ISP)

Applied Investment Banking

Spring Term 2016 Unit 1

Prof. Dr. Stefan Morktter

Investment Banking
Unit 1
Morktter

Overview
Central elements of a financial intermediation system

Financial Services
Products

Provider of
financial services

Financial
Services
Markets

Consumer of
financial services

Financial Services Infrastructure / Logistics

Investment Banking
Unit 1
Morktter

Financial Markets Typology

Primary
market

Secondary
market
Regulated auction market;
Function: Information
pricing, clearing /
settlement, trading

Exchanges

Less- or unregulated
dealer market
(Example: NASDAQ)

OTC

Issuing of securities, IPO,

private equity, etc.

Transactions with already

issued securities

Other typologies
Trading systems, internet trading
Risk management, institutional trading

Two distinct Financial Intermediation Models (I)

Balance sheet vs. market-based system
Balance sheet-oriented System

Market-oriented System
Intermediary

Markets
Intermediary

Markets
Provider

Consumer

Investment Banking
Unit 1
Morktter

Consumer

Provider

Intermediary

Investment Banking
Unit 1
Morktter

The European banking sector is more important for the

local economy than compared to the U.S. economy!
Bank debt in relation to local GDP (2012)
0

200

400

600

800

Island
UK
Switzerland
Eurozone
Sweden
Australia
Norway
Canada
USA

Quelle: FINANZundWIRTSCHAFT

Investment Banking
Unit 1
Morktter

Two distinct Financial Intermediation Models (II)

Empirical Evidence: U.S. vs. Europe

Quelle: Morkoetter et al. (2012)

Investment Banking
Unit 1
Morktter

Bank Business Models and Areas

Some definitions
Business Area
A part of a bank's operations such as retail, private, commercial, investment banking or asset
management
Universal Bank
Depository institutions that follow an integrated bank business model, which encompasses both
commercial and investment banking activities
Commercial Banking
Collective term for banks that are conducting the traditional financial intermediation function such as
collecting deposits or granting loans
Investment Banking
Financial institutions that focus on raising capital for their corporate clients, issuing and trading in
securities, and M&A activities
Retail Banking
Mass-market banking for individual consumers
Private Banking / Wealth Management
Personalised financial services for high net worth individuals
Asset Management
Prudent administration of investable (liquid) assets, aimed at achieving an optimum risk-reward ratio
(e.g. mutual funds, hedge funds, etc.)

Investment Banking
Unit 1
Morktter

Investment Banking Functions

Securities
Issuing
Securities
Markets
transactions

Core Functions

Securitization

Asset
Management
Strategic
Advisory
Services

Investment Banking
Unit 1
Morktter

The Business of Investment Banks

What is investment banking?

Simply put, investment banks...invest.
They purchase new securities

Source: Fleury

Investment Banking
Unit 1
Morktter

Investment Bank vs. Universal (Commercial) Bank

Universal Bank

Investment Bank

Assets

Liabilities

Assets

Cash
(30%)

Interbank (20%)

Cash
(10%)

Loans
(50%)

Other Assets
(20%)

Deposits
(60%)

Other Liabilities
(20%)

Liabilities

Securities
(45%)

Interbank/
Short-Term
Debt
(60%)

Loans
(25%)

Long-term
(20%)

Other Assets
(20%)

Other Liabilities
(20%)

Investment Banking
Unit 1
Morktter

Overview U.S. Balance Sheets

(in %, 31.12.2011, Liabilities)
BofA = Bank of America, Citi = Citigroup, GS = Goldman Sachs, JPM =
JPMorgan Chase, MS = Morgan Stanley

Source: SNL Financial

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Investment Banking
Unit 1
Morktter

Interbanking markt
Bank A
500

500

Bank B
500

Bank C
500

500

500

Central Bank

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Investment Banking
Unit 1
Morktter

Investment Banks
7 Key Functions
1. Investing / Asset Management
Managing pools of assets such as mutual funds, pension funds, etc.
2. Investment Banking
Underwriting and distributing new issues of debt and equity, be it first-time issues of
companies (IPO) or secondary issues.
3. Market Making
Creating a secondary market in an asset by an investment bank.
4. Trading
Trading on behalf of a customer as an agent or on behalf of the firm as principal (Position
trading, pure arbitrage, risk arbitrage, program trading)
5. Cash Management
Offering of bank deposit-like cash management accounts and deposit accounts.
6. Mergers and Acquisition
Providing advice or assisting in mergers and acquisitions.
7. Back-Office and Other Service Functions
Custody and escrow services, clearance and settlement services, research, etc.
Source: Saunders & Cornett, 2008, p. 93ff.

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Investment Banking
Unit 1
Morktter

Securities services and investment banking

Investment banking involves the raising of debt and equity securities for
corporations or governments. This includes the origination, underwriting, and
placement of securities in money and capital markets for corporate or government
issuers.
Securities services involve assistance in the trading of securities in the secondary
markets (brokerage and/ or market making).
Together, these services are performed by the securities firms and investment
banking industry, whereby the full-line firms are usually called investment banks.
The business of investment banks also includes corporate finance activities for such
as advising on mergers and acquisitions (M&As), as well as advising on the
restructuring of existing companies.

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Investment Banking
Unit 1
Morktter

The Product/ Client Matrix

Three main service offerings of an investment bank
Role in primary markets
Role in secondary markets
Advisory services and M&A

Investors
Financial Institutions
Individuals
Issuers
Corporations
Government
Proprietary

Capital Raising

Capital Markets

Advisory

Capital
Financing

Market maker
Broker

Sales
Research

Capital
Risk management M&A
Bond underwriting Government dealer Privatization
Principal investor Proprietary trading Investment
partnership

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Investment Banking
Unit 1
Morktter

Competitive Landscape
Demand is driven by economic activity that results in company mergers,
acquisitions, or public financing.
The profitability of an investment bank depends on its ability to accurately assess
both the value of business transactions and the readiness of markets to buy the
attendant debt or equity.
Big firms have an advantage because large customer transactions require firms with
substantial financial resources. Small investment banks can compete by participating
in syndications and operating in regional markets or specialized industries.
Although labour-intensive, the industry produces very high value: average annual
revenue per employee at large firms is close to USD 0.5-1 million
(Hoover Research estimate).

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Scope of investment banking

Products and services not only cover different roles and all balance sheet positions of a
company, but products and services move along the life span of a company
Investment Banking Products and Services
Public

Private

M&A Advisory
Research, Sales & Trading
Stage of Development

Investment banks breadth of products and services

result in a partnership with companies throughout their
corporate lifecycle

Investment Banking
Unit 1
Morktter

Public Financings
Corporate Services
Private Placements
Private Equity (TWCP)
Venture Capital (TWVP)
Company Life Span
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Investment Banking
Unit 1
Morktter

Investment Banking Activities

Technical
Expertice

Trading

Asset Management

Retail
Business

Primary Markets

M&A

Tacit Implizit
Know-How

Investment Banking
Unit 1
Morktter

Investment Banks as Information Providers

Information
Producer
Information Network

Institutional
Investors
Liquidity Network

Investment Banks

Issuer

Retail

Secondary Markets

Investment Banking
Unit 1
Morktter

Business Development Strategies

Examples from investment banks
Prime Brokerage Business
Back office functions: Services for Hedge Funds
New business line in the wave of the Hedge Funds Boom
Market entry by Deutsche Bank:
-

Acquisition of NatWest's (UK) derivative business in 1997 including back office business

Know-how-Transfer to U.S. and development of new business area

Result: First mover advantage and resulting in strong position in prime brokerage business

Barclays
Barclays used to be a traditional retail bank (UK)
In the mid 90's management realized that a new, younger generation of investors emerged
(less brand-loyal, but service oriented instead)
Strategy: IT investment and product development
Results:
-

Change to investment bank

Development of new lines of business (e.g. iShares)

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Investment Banking
Unit 1
Morktter

Source of Income
Where the bonus is (was) earned?
Sources of net revenue for Goldman Sachs (1996-2007)
(in millions of US dollars)

Year Ending in November

Net Revenue From Business Lines

Investment Banking
Trading & Principal Investments
Asset Management & Securities Services
Total Net Revenue
Percentage of Net Revenue from Business Lines
Investment Banking
Trading & Principal Investments
Asset Management & Securities Services

1996

1997

1998

2007

2'113
2'693
1'323
6'129

2'587
2'926
1'934
7'447

3'368
2'379
2'773
8'520

7'555
31'226
7'206
45'987

34
44
22

35
39
26

40
28
33

16
68
16

20

Investment Banking
Unit 1
Morktter

Dynamics of the financial crisis

Loop effect
(indebtedness)
Governments and central
banks back the banking sector
(Sep/Oct 2008)

Summer 2007

Mortgage crisis

Summer
2008

Governments push
domestic demand (Nov
2008)

2008/
2009

Banking crisis

2010/
2011

Economic crisis
Loop effect
(defaults)

Further measures to support

the banking sector (from
December 2008)

State rescues in Europe &

high US indebtedness

Summer
2009/2010

Debt crisis
Loop effect
(recession)
2012/
2013

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Investment Banking
Unit 1
Morktter

Source of Risk
Development of Banks' Leverage Ratios
45
40
35
30

Goldman Sachs

25

Morgan Stanley
Lehman Brothers

20

Wells Fargo

15

Bank of America

10
5
0
2002

2003

2004

2005

2006

2007

2008

2009

Leverage ratio = Total Assets / Shareholders Equity (without Goodwill and Intangible Assets)
Source: Company annual reports and 2008 Q4 earnings releases

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Investment Banking
Unit 1
Morktter

Source of Costs
Cost Development of Investment Banks (2009 2012)
140
120

Nicht-Entlhnungskosten

100

Gesamtkosten

80

Gehaltskosten

60

Umsatz

40

Vor-Steuer Gewinn

20
0
Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2
2009 2010 2010 2010 2010 2011 2011 2011 2011 2012 2012
Source: Financial News, August 2012.

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Investment Banking
Unit 1
Morktter

Shrinking Investment Banks

Morgan

Royal Bank of Deutsche Credit Agricole Societe

Scotland
Bank
Generale

Barclays

120
76

10.3

49

16

Credit
Suisse

4.6

Goldman
Sachs

67

80

91

17

26

7.4

Santander

Citigroup

BNP
Parisbas

Unicredito

108

93

32.5

26

JP Morgan

255

UBS
116

35

HSBC
215

165
75

27

100

116

35

64

Market Value as of Q2 2007, Bn

19

85

97

Market Value as of January 20th 2009, Bn

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Investment Banking
Unit 1
Morktter

Changing Order in the Banking Industry

1999 2009

25

Investment Banking
Unit 1
Morktter

Global systemically important banks

Top Twelve (2012)
Balance sheet
Credit Suisse

846

UBS

24.2
1132

Bank of China

45.7
1595

Bank of America

1754

Credit Agricole

1802

JP Morgan Chase

1803

3.83
8.7

6.2

2.4

10.2
5.23

14.9

0.4

2.49

126.2

1970

48.9

Mitsubishi Ufj

1986

49.5

Barclays

2022

3.8

2.7

4.39

0.1

3.32
6.5

33.4

8.21

4.7

143.5

2185

500 1000 1500 2000 2500

7.6

36.5

2096

in EUR bn

3.49

40

BNP Paribas

Deutsche Bank

0.7

81.4

Royal Bank of Scotland

HSBC

Equity ratio

94.7

1682

Profit

Market cap

6.25

100

in EUR bn

200

2.6

10 0

10

20

in EUR bn
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Investment Banking
Unit 1
Morktter

Marketcapitalization of systemically important banks

In bn, local currency

Sept. 2013

HSBC
(in GBP)

107

JP Morgan
(in USD)

166

Barclays
(in GBP)

38
62
154

198
+20%
46
82
217
-29%

RBS
(in GBP)

38

Deutsche Bank
(in EUR)

35

Credit Suisse
(in CHF)

+22%

-25%

Bank of America
(in USD)

Societe Generale
(in EUR)

131

-16%

BNP Paribas
(in EUR)

UBS
(in CHF)

June 2007

60
-37%
56
-39%

72
28

155
-54%
63
-56%

44

106
-58%

27
27

Investment Banking
Unit 1
Morktter

Balance sheet developments of central banks

Balance sheet (in bn)
Federal Reserve
(in USD)

2013

3,479

Swiss
National Bank
(in CHF)
People's Bank
of China
(in Yuan)
Bank of Japan
(in Yen)

+310%

849

European
Central Bank
(in EUR)
Bank of England
(in GBP)

2007

2,430
+119%

1'112
404

+411%

79
489

+349%

109
30,674

+165%

11'590
187,068
100,071

+87%

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Investment Banking
Unit 1
Morktter

Change of interest rates for new loans

(in base points, December 2010July 2012)

Quelle: IMF Stability Report October 2012

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Investment Banking
Unit 1
Morktter

Investment Banking League Tables

M&A (Worldwide, Completed, 2012)
Rank

Financial Advisor

Goldman Sachs & Co

Ranking Value
($Mil)
573,048

JP Morgan

Mkt. Share

Number of Deals

27.2

371

416,771

19.8

262

Morgan Stanley

388,985

18.4

342

Credit Suisse

350,964

16.6

240

Barclays

321,939

15.3

241

274,251

13.0

202

Bank of America Merrill

Lynch
Deutsche Bank

269,483

12.8

225

Citi

239,187

11.3

194

Lazard

215,119

10.2

234

10

UBS

170,738

8.1

185

11

Rothschild

163,886

7.8

248

12

Evercore Partners

153,421

7.3

97

Source: Thomson One

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Investment Banking
Unit 1
Morktter

Investment Banking League Tables

Global Equity & Equity Related (Worldwide, 2012)
Rank

Book Runner

Goldman Sachs & Co

Proceeds Amount
+ Overallotment
Sold This Market
(US$ Mil)
57,258

Morgan Stanley

3
4

Mkt. Share

Number of Issues

9.1

262

52,217

8.3

269

Citi

51,526

8.2

294

JP Morgan

50,281

8.0

319

46,049

7.3

296

Bank of America Merrill

Lynch
Deutsche Bank

39,999

6.3

262

Credit Suisse

36,765

5.8

255

UBS

36,346

5.7

269

Barclays

31,703

5.0

198

10

Wells Fargo & Co

10,404

1.6

129

11

Nomura

10,071

1.6

78

12

RBC Capital Markets

9,913

1.6

128

Source: Thomson One

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Investment Banking
Unit 1
Morktter

Investment Banking League Tables

Bonds (Worldwide, 2012)
Rank

Book Runner

JP Morgan

Proceeds Amount
+ Overallotment
Sold This Market
(US$ Mil)
460,075

Deutsche Bank

3
4

Mkt. Share

Number of Issues

8.1

1,775

388,364

6.8

1,609

Barclays

370,639

6.5

1,329

Citi

337,348

5.9

1,412

303,849

5.3

1,392

Bank of America Merrill

Lynch
Morgan Stanley

284,412

5.0

1,287

Goldman Sachs & Co

250,964

4.4

806

HSBC Holdings PLC

239,203

4.2

1,241

Credit Suisse

229,021

4.0

971

10

BNP Paribas SA

198,475

3.5

817

11

UBS

184,368

3.2

965

12

RBS

175,865

3.1

787

Source: Thomson One

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Investment Banking
Unit 1
Morktter

"Drivers of Change"
Demand dimension

Structure

Content

Behavior

Technological dimension
Systems

Added
value

Society
&
culture

Risk dimension
Financial
intermediation
system

Meta risks

Volatility

System
risk

Normative dimension

Politics

Ethics

Law
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Investment Banking
Unit 1
Morktter

High frequency trading firms grow in all assets classes

except for US equities
US equity profits from high frequency
trading (in USD bn)

Market share asset classes (in %, estimation)

65
60

45

US Equity
Global
Futures

40

Global FX

55
50

35
30
25

Global
Fixed
Income

20
15

2012 1.0

2011

1.5

2010

1.6

2009

-28% p.a.

4.1

10
5
2008

2008
09

10

11

3.7

2012
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Investment Banking
Unit 1
Morktter

Blackrock the unknown giant holds USD 3,800

bn

Blackrock at a glance

Share of ETF market (worldwide in %)

Founded in 1988 by Laurence D.

Fink originally part of Blackstone

Other
24

Largest asset manager worldwide

USD 3,800bn AuM

DB x-trackers 3
Power Shares 4
13
Vanguard

Profit in Q4 2012: USD 690 bn

Takeover of Barclays Global Investors
in 2009, incl. the index fund iShares
(ETFs) thus became shareholder of
all DAX 30 companies (e.g., 10.9%
of BASF)
Also provider of risk analysis
solutions for larger investment trusts
and central banks

Blackrock
39 (iShares)

17

State Street
Largest asset managers (in Mrd USD)
3,792

Blackrock
2,000

Pimco
769

Franklin T.

DWS

274

Deka

202
35

Investment Banking
Unit 1
Morktter

"Drivers of Change"
Examples
Mobile retail banking
App based (mobile phones / smart watch)
No branches, fewer costs than traditional banks
Spending statistics within the app
Scan and deposit checks using the mobile phone app

Mobile real estate / housing products

Home loan request made online / mobile
First reaction on application within 30 minutes
Call center available via SKYPE from anywhere
in the world for free (24/7)
No application / account fees

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Investment Banking
Unit 1
Morktter

"Drivers of Change"
Banking in the future

37

Investment Banking
Unit 1
Morktter

PRIVATE BANKING
Section 1

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Investment Banking
Unit 1
Morktter

Private Banking service providers (1)

Universal Banks

Private Banks

Commercial Banks

Non Banks

Fonds

Investment Banking
Unit 1
Morktter

Private Banking service providers (2)

Universal banks
Integrated services such as advisory, financial analysis, portfolio management,
investment funds

Private banks
Specialized in advisory and asset management of HNWI

Medium-sized banks
Dedicated teams for private banking clients but research is outsourced

(Independent) asset managers and family offices

Banks hold depots
Focus: asset Management
Family Office: fully-fledged supervision of large families no restriction on wealth
management

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Investment Banking
Unit 1
Morktter

Private Banking Functions

Asset management & customer service
Customer acquistion
Investment advisory, tax optimization
Performance reports

Portfolio management
Selection and timing
Performance analysis

Innovative product provider

Hedge funds
Private equity
Structured products

Financial analysis
Fundamental analysis
Macro analysis
Technical analysis

41

Investment Banking
Unit 1
Morktter

Advisory process

The advisory process is dominated by highly developed banking services

Marketing
Customer acquisition

Advisory
Financial planning

Research
Analysis and
portfolio
management

Retention
Reporting and
customer loyalty

Professionalization

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Investment Banking
Unit 1
Morktter

Extra services

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Investment Banking
Unit 1
Morktter

Customer segmentation

> 50 mn

20 50 mn

5 20 mn

500k 5 mn

Key
clients

Ultra High Net

Worth Investors

High Net Worth

Investors

Affluent clients

< 250/500k
Retail clients

Family Office, Corporate Finance Services,

Trust, Foundations
Shared Family Office, Corporate Finance
Services, Trust, Foundations
Comprehensive Private Banking services, delegation
of portfolio management, Foundations
Clients with a personal advisor, Private Banking
Services
Addressed by direct mailing, brand name, and
other channels

44