There are three major classes of investment banks: bulge bracket, middle market and boutique. The classifications are mostly based on the type and size of deals the bank can handle.
Like other corporations, investment banks are split into back, middle and front offices, with the front office generating most of the revenue and back and middle office jobs ensuring the business runs smoothly.
The front office itself generates sales in various ways, including investment banking, sales and trading, asset management and research.
Investment banks are known for their fiercely competitive climate, their gruelling working hours, and of course, for the lucrative and prestigious careers that they offer. As a reader of the FSG journal, you might be curious about who the major players are and what they do. This article will provide a general overview of the structure of investment banks and the competitive landscape in which they operate. If you’d like to know more about the banking system in general, here's (Link 1) an article by Laura Vasilov.
What is an investment bank?
To begin with, an investment bank is different from a commercial bank. A commercial bank serves individual citizens as well as small and medium-sized businesses. Commercial banking involves taking deposits, making loans and occasionally, private banking and wealth management.
On the other hand, an investment bank aids much larger clients, such as governments, corporations and pension funds. Primarily, these banks help their customers raise capital (i.e. financing) and assist them with strategic transactions such as IPOs and M&A. Thus, their primary revenue stream is the fees they earn for these services. Some of their secondary functions include asset management, research and broker services.
In the past, the two types of baking were separated, but today there are banks that play both roles. The separation of investment and commercial banking is a contentious topic that goes beyond the scope of this article.
The industry landscape
There are thousands of investment banks out there, so delineating the position that each has within the industry is unfeasible. However, a panoramic view that highlights the main categories and players can still be created (do keep in mind that, while generally accepted, these groups are subjective and not strictly defined). The major classifications of banks are bulge bracket, middle market and boutiques.
Bulge bracket (BB) banks are the largest investment banks in the world. They have thousands of employees and vast resources at their disposal, so they handle the biggest deals. When businesses want to raise capital, for example, with an IPO or SEO, they create a prospectus, which is a document that informs the public about the investment. The prospectus (or, in the past, the tombstone used to advertise the issuance) shows who the leading underwriter is by presenting its name above the other banks and in a larger font that will “bulge out” of the page. Hence the name.
These firms require a very heavy workload, which is accompanied by high compensation and great exit opportunities. They offer a wide range of services, which will be discussed more in-depth later in the article. Well-known BB banks include Goldman Sachs, J.P. Morgan, Morgan Stanley, Bank of America, Citigroup, Barclays, Deutsche Bank and UBS.
Next, middle market (MM) banks have clients whose needs don’t require the full manpower of the BB. They provide similar services to BB but at a smaller scale (roughly ranging from $50-$500 million, although larger deals are certainly possible). Their clients are often private firms or small public companies. MM banks have a strong presence in their home country, but tend to lack the international exposure that the larger banks have. Smaller deal size means lower pay but also fewer hours worked. Some notable middle market names are HSBC, Jefferies, BMO Capital Markets, Harris Williams, William Blair, Baird, Houlihan Lokey and Macquarie Group. From these, Jefferies, Houlihan Lokey, Macquarie and William Blair have offices in the Netherlands. Furthermore, banks like Rabobank or ABN Amro offer IB-related services like M&A and leveraged finance. Again, remember the list is non-exhaustive and in no particular order.
Lastly, we have boutique banks, which can be further classified into four categories: elite, regional, industry-specific, and up-and-coming. The main difference between boutique banks and their bigger counterparts is that they are more focused on strategic transactions (M&A and restructuring) than on financing major deals. In other words, they typically don’t have balance sheets large enough for capital markets offerings. Thus, their services are less diversified, and they have limited global presence.
In spite of this, boutique banks are able to provide tailored and highly specialised services for their clients. For instance, there are boutique banks that specialise in covering only one industry and can thus dedicate all their resources towards gaining an edge in that space, such as Qatalyst, which focuses on tech deals. The ‘elite’ category competes with BB in terms of deal size and compensation. They also lead to great exit opportunities and lots of experience. Renowned names in this space include Evercore, Centerview, Lazard, Moelis, Qatalyst, Rothschild, Parella Weinberg and PJT Partners. From these, Lazard, Moelis and Rothschild offer Benelux coverage and have a local presence in the Netherlands or Belgium; Kempen Co. and Axeco are Dutch boutiques.
Regional boutique banks are smaller than the elite category. They are focused on a certain geography and tend to work on deals below $50 million. Industry-specific banks instead focus on a certain industry and possess a lot of specialised knowledge. For instance, Incentrum Group provides expertise in the life sciences sector. Lastly, up-and-coming boutique banks are founded by talent that leaves the elite and BB to establish their own shop. The teams are small, but transactions can still be pretty large, leading to a very high workload. An example would be Lion Tree. The diagram below provides a rough overview of the scenery described so far.
Divisions & structure
Now that the landscape in which banks operate has been discussed, the internal divisions of an investment bank are explored. This pertains mostly to MM and BB firms (recall that boutiques offer less services).
Like other corporations, investment banks are structured into three segments: back office, middle office and front office (see the figure below). The back office provides all the supporting functions that any business needs. For example, accounting, human resources, compliance, the IT department etc.
Moreover, the middle office specialises in risk management and treasury. Risk management involves asset-liability management and management of credit, market and operational risk. The treasury department works with the risk group and is key for managing the working capital of the bank. These departments provide better work-life balance but also have lower ceilings in terms of career opportunities. If you’d like to know more about job progression in finance, check out this article (link 2) by Gertjan van de Beek on how a 30-year-old can be vice president at Morgan Stanley.
Structure of an IB, Source: BankingPrep
The front office jobs are client-facing and revenue-generating. They often offer the best salaries and lead to high positions in the bank, along with great exit opportunities. There are several functions that this part of the bank serves.
There are two main groups within the investment banking division: product and industry. The product groups specialise in one deal type, for example, M&A, IPOs, LevFin, restructurings and equity or debt issuance (these are part of the debt and equity capital markets). In contrast, the industry groups provide a wide range of transactions, but each focuses on one single industry.
Moreover, the sales and trading division has a self-explanatory name. The sales team is in charge of seeking relationships and persuading them to trade with the bank. The selling role will also help investment bankers raise more capital during IPOs. Meanwhile, the trading is divided into market making and proprietary (prop) trading. The market maker provides liquidity by helping large customers buy and sell volumes for which it would be difficult to find a party that is large enough to take the other side of the trade. It requires knowledge of options and hedging. The profit comes from the spread of the transaction. The prop trading group invests the bank’s own money and takes a percentage of the profits it generates. This type of trading is disappearing from banks; it is mostly done at prop trading firms nowadays. Essentially, S&T is focused on bringing together buying and selling. This department is a significant source of revenue. The image below illustrates the revenues and expenses for Goldman Sachs in 2021. As you can see, market making rivals the IB division in terms of sales, generating $15.4 billion against $14.2 from IB.
The asset management (or investment management in the graph) takes investments from clients and tries to maintain and maximise returns. They monitor asset performance, generate research covering a variety of asset classes and provide advice on portfolio management. The clientele ranges from pension funds to individuals.
Finally, equity research focuses on analysing companies, communicating with their management and making buy, sell and hold recommendations. Despite the name, the teams also analyse fixed-income instruments. Each group of analysts is concentrated on a specific industry and provides leading expertise on the corporations they cover. Some believe that these jobs run the risk of being replaced by AI. If you’re curious about whether or not Chat GPT and AI pose a serious threat, check out this article (link 3) by Lucia Kuncova.
This article has provided a general overview of the investment banking landscape, covering bulge bracket, boutique and regional banks. When considering job market opportunities, each of the three options is attractive in its own right, depending on the compensation, work-life balance and exit opportunities one is looking for. It’s also worth noting that each of the divisions requires a different set of skills, ranging from adept maths skills to deep expertise of a sector to great sales and networking abilities.
Keep in mind that investment banks are only one of the many possible paths for finance-oriented people. Alternatives include accounting firms, prop shops, real estate firms, asset managers, insurers and corporate finance departments of non-finance companies. Exploring these options as well will expose you to a wider scope and improve the chances of finding something that suits your profile.