What is Investment Banking?

Investment banking is a category of financial services that specializes primarily in selling securities and underwriting the issuance of new equity shares to help companies raise capital. Investment banking is different from commercial banking, which specializes in deposits and commercial loans.

How Does Investment Banking Work?

Investment banking plays a crucial role as mediator between companies that issue securities and the individuals or entities wishing to purchase them. In this respect, investment banking operates along two main lines: a 'buy' side and a 'sell' side. 'Buy' side operations include services such as securities trading and portfolio management. 'Sell' side activities include underwriting new lines of stock, marketing financial products and publishing financial research.

To illustrate the “buy side” of investment banking, suppose an investor wants to purchase 100 shares of company XYZ. They can solicit the services of an investment bank, where a stock broker can place an order and deliver these shares.

To illustrate the “sell side” of investment banking, suppose company XYZ plans to issue new shares of stock in an initial public offering (IPO). XYZ can solicit an investment bank to underwrite the shares, and market and sell them to their clients. This way, the investment bank raises the funds that company XYZ hopes to gain from the issue of the new shares.

Regulation is a key issue in investment banking because it operates on both (and often competing) sides of the same coin. Consequently, there is significant room for conflicts of interest between the buying and selling operations. Agencies such as the SEC provide strict guidelines to help ensure that operations on the 'buy' and 'sell' sides do not intersect and result in unfair market practices or ethics violations.

Why Does Investment Banking Matter?

Investment banking brings investors together with companies that issue securities and companies that broker securities. Investment banking also provides crucial services to security-issuing companies, because, although the industry may broker the securities that a client issues, the industry can help raise capital funds for such companies through underwriting new stock offerings.