Investment banks help large companies and governments raise money and buy or sell other companies

An investment bank is a financial firm that does three main things: it helps organizations raise money by selling stocks or bonds to investors, it advises on mergers and acquisitions (when one company buys another), and it trades securities on its own account to make a profit. Unlike a regular bank that takes deposits from you and lends them out, an investment bank works almost entirely with large institutions, corporations, and wealthy individuals.

The reason investment banks exist is that raising billions of dollars or buying a competitor is complicated. A company cannot just call individual investors and ask them to buy its stock. It needs a middleman who knows how to structure the deal, find buyers, price it fairly, and handle all the legal and financial details. That middleman is the investment bank.

Most investment banks are divisions of larger financial companies. JPMorgan Chase, Bank of America, Goldman Sachs, and Morgan Stanley all have investment banking arms. Some are standalone firms. What they all share is that they make money from fees and trading profits, not from deposits.

Key Takeaways

  • Investment banks help large companies and governments raise money by issuing stocks and bonds to investors.
  • They advise on mergers and acquisitions and earn fees based on the size and complexity of the deal.
  • Investment banks trade securities and other financial instruments on their own account to generate profit.
  • They work with institutions and wealthy clients, not with regular people opening savings accounts.
  • Most investment banks are owned by or are divisions of larger financial companies.

How investment banks raise money for companies

When a company needs to raise money, it can borrow from a bank (a loan) or sell ownership stakes to investors (stock) or sell promises to repay with interest (bonds). The investment bank's job is to help with the second and third options.

For a stock offering, the investment bank meets with the company's leadership, reviews its finances, and decides what price to set. It then sells shares to large institutional investors like pension funds and insurance companies. The investment bank earns a percentage of the total money raised, usually between 3 and 7 percent depending on the size and risk of the deal.

For a bond offering, the process is similar. The investment bank helps the company decide how much to borrow, what interest rate to offer, and how long the bonds should last. It then sells those bonds to investors. The company gets the cash upfront and pays interest over time. The investment bank takes a fee for arranging it.

These offerings are called underwriting. The investment bank is essentially guaranteeing that it will find buyers for the securities, which is why it takes a fee for the risk and work involved.

Mergers and acquisitions: advising on company purchases

When one company wants to buy another, the investment bank acts as an advisor and dealmaker. It helps the buying company figure out what price is fair, structures the offer, negotiates with the selling company's advisors, and handles the financial and legal details.

A merger or acquisition can be worth billions of dollars. The investment bank earns a fee based on the total deal value, often between 0.5 and 2 percent. On a $10 billion deal, that can mean tens of millions of dollars in fees for the bank.

The investment bank also produces research and analysis to justify the price. It looks at the target company's earnings, growth prospects, and what similar companies have sold for. This analysis helps convince the board of directors and shareholders that the price makes sense.

Sometimes the investment bank also arranges the financing for the deal—helping the buyer borrow money or raise equity to pay for the purchase. That generates additional fees.

Trading and proprietary investing

Beyond advising on deals, investment banks trade securities for profit. They buy stocks, bonds, currencies, and derivatives (complex financial contracts) and sell them at a higher price. This is called proprietary trading—the bank is trading its own money, not a client's.

Investment banks also act as market makers. They buy and sell large blocks of securities constantly, profiting from the small difference between the buy and sell price. If a pension fund wants to sell a million shares of a company, the investment bank will buy them and then sell them to other investors, keeping the spread.

This part of the business can be very profitable in good markets but can also generate large losses in downturns. During the 2008 financial crisis, some investment banks lost billions on their trading positions.

Research and sales to institutional clients

Investment banks employ analysts who research companies and write reports on whether their stock will go up or down. These reports are sold to institutional investors like hedge funds, mutual funds, and pension funds. The reports help those investors decide what to buy and sell.

The investment bank's sales team uses this research to build relationships with large clients. A salesperson might call a hedge fund manager and say, "Our analysts think this company's stock is undervalued. Would you like to buy a large block?" If the hedge fund buys, the investment bank earns a commission on the trade.

This business line is called sales and trading. It generates steady revenue from commissions and spreads, and it keeps the investment bank connected to major investors.

Why investment banks matter to the broader economy

Investment banks are essential to how capital moves through the economy. When a startup grows and needs to raise money to expand, an investment bank can help it go public and raise billions. When two companies merge to become more efficient, an investment bank structures the deal. When a government needs to borrow money, an investment bank helps it issue bonds.

Without investment banks, large-scale financing and corporate transactions would be much slower and more expensive. However, investment banks also take on significant risk and can amplify financial crises when they fail or make bad bets.

For most people, investment banks are invisible. You do not deposit money with them or borrow from them. But if you own a retirement account or mutual fund, that fund may hold stocks or bonds that an investment bank helped issue or trade.

The difference between investment banks and commercial banks

A commercial bank is what most people think of as a regular bank. It takes deposits from individuals and businesses, pays interest on savings accounts, and lends money for mortgages, car loans, and business loans. It makes money from the difference between what it pays depositors and what it charges borrowers.

An investment bank does not take deposits and does not make consumer loans. It works with large institutions and corporations. It makes money from fees on deals and from trading profits, not from the spread between deposit rates and lending rates.

Many large financial companies own both a commercial bank and an investment bank. JPMorgan Chase, for example, has a consumer banking division that takes your deposits and a separate investment banking division that advises on mergers. This separation exists partly because of regulations that were put in place after the 2008 financial crisis to reduce risk.

Frequently Asked Questions

Do investment banks work with regular people?

Not typically. Investment banks focus on large corporations, governments, and institutional investors. If you are an individual investor, you interact with a brokerage firm or a wealth manager, not an investment bank. Some investment banks have private wealth divisions for very high-net-worth individuals, but the minimum is usually millions of dollars.

How much money do investment bankers make?

Investment bankers earn salaries plus bonuses. Entry-level analysts might earn $100,000 to $150,000 in base salary plus a bonus. Senior partners and managing directors can earn millions. Bonuses depend on the deals the bank closes and the profits it generates, so they vary widely year to year.

What happens if an investment bank fails?

If an investment bank fails, it can create ripple effects through the financial system because other banks, investors, and companies depend on it. During the 2008 crisis, the failure of Lehman Brothers triggered a broader financial collapse. Today, regulators monitor large investment banks closely and require them to hold more capital to absorb losses.

Can I invest in an investment bank?

Yes. Most large investment banks are publicly traded companies, meaning you can buy their stock through a brokerage account. JPMorgan Chase, Goldman Sachs, Morgan Stanley, and Bank of America all trade on public stock exchanges. You can also invest in them through mutual funds or index funds.

Why do investment banks charge such high fees?

Investment banking deals are complex, high-stakes, and require specialized informed. A merger advisor must understand the target company's business, negotiate with another bank's team, and structure a deal that satisfies both sides. The fees reflect the risk the bank takes on and the value it creates by bringing the deal together.