Comparison of investment banks and commercial banks
Investment banks and commercial banks represent two divisions of the banking industry, and each type provides significantly different services.
Investment banks speed up the buying and selling of bonds, stocks, and other investments, and help companies make initial public offerings (IPOs) when they go public and sell stocks for the market. first time. Commercial banks act as managers of deposit accounts owned by businesses and individuals, although they mainly focus on corporate accounts, and they make government loans from the deposited money they hold. .
Since the financial crisis and economic downturn that began in 2008, many entities that mixed investment banking and commercial banking have come under scrutiny. There is an important debate on whether the two divisions of the banking sector should operate under one roof or whether it is better to separate them.
Key points to remember
- Investment banks and commercial banks provide different services and specialize in different financial activities.
- Investment banks write new debt and equity securities, assist in the sale of securities, and conduct mergers and acquisitions, reorganizations and brokerage transactions.
- Commercial banks provide loans to individuals and small businesses and offer checking accounts, savings accounts and certificates of deposit.
- Most financial services firms operate either as an investment bank or as a commercial bank, although some combine functions.
Investment banks are primarily financial intermediaries, helping companies set up IPOs, obtain debt financing, negotiate mergers and acquisitions, and facilitate corporate reorganization. Investment banks also act as a broker or advisor for institutional clients.
Major investment banks include JPMorgan Chase (JPM), Goldman Sachs (GS), Morgan Stanley (MS), Credit Suisse (CS) and Deutsche Bank (DB). Clients include corporations, pension funds, other financial institutions, governments, and hedge funds. Many investment banks also have retail operations for small individual clients.
Commercial banks accept deposits, provide current and debit account services, and offer commercial, personal and mortgage loans. They also offer basic banking products such as certificates of deposit (CDs) and savings accounts to individuals and small businesses. Most people have a commercial bank account, rather than an investment bank account, for their personal banking needs.
Commercial banks largely earn money by making loans and earning interest on loans. Accounts receivable, including checking and savings accounts, provide money to banks to make loans.
Customers love commercial banks because their money is guaranteed up to $ 250,000 per depositor and is regulated by the government, but the interest earned on the accounts is minimal to no money, especially compared to mutual funds, to stocks and other investments.
Commercial banks are heavily regulated by federal authorities such as the Federal Reserve and the Federal Deposit Insurance Corporation (FDIC).Commercial banks are insured by the federal government to maintain the protection of accounts receivable and to provide a certain level of security.Investment banks differ because they are much less regulated by the Securities and Exchange Commission (SEC).The Commission offers less protection to clients and leaves investment banks a great deal of operational freedom.
The relative weakness of government regulation, as well as the specific business model, gives investment banks higher risk tolerance and exposure. Commercial banks have a much lower risk threshold. Commercial banks have an implicit duty to act in the best interests of their customers. Higher levels of government control over commercial banks also lower their level of risk tolerance.
Historically, institutions that combine commercial and investment banking have viewed it with skepticism. Some analysts have linked these entities to the economic depression that occurred at the start of the 20th century. In 1933, the Glass-Steagall Act was passed and authorized a complete and utter separation of all investment and commercial banking activities.
Glass-Steagall was largely repealed in 1999.Since that time, banks have engaged in both types of banking operations. Despite the legal freedom to expand their operations, most of the largest US banking institutions have chosen to operate as a commercial or investment bank.
There are certain advantages for banks which combine the functions of investment and commercial services. For example, a mixed bank might use its investment capabilities to help a company sell an IPO, and then use its trading division to provide a generous line of credit to the new company. This allows the company to finance rapid growth and therefore increase its share price. A combined bank further derives the benefits of increased commerce, which generates commission income.