Investment banks are financial firms that help companies and governments raise money, buy and sell other companies, and trade securities
An investment bank is not a bank where you deposit your paycheck. It is a financial firm that works with large organizations—corporations, governments, wealthy individuals—to move money in large amounts. Investment banks arrange loans for companies that want to expand, help one company buy another, sell stocks and bonds to investors, and trade securities on their own account. They charge fees for these services, which is how they make their money.
The largest investment banks in the United States include JPMorgan Chase, Goldman Sachs, Morgan Stanley, Bank of America Merrill Lynch, and Citigroup. These firms operate globally and handle transactions worth billions of dollars. Smaller investment banks focus on specific industries or regions, or on particular services like mergers and acquisitions.
Key Takeaways
- Investment banks help large companies and governments raise money by selling stocks and bonds to investors, and they charge fees for arranging these deals.
- They advise on mergers and acquisitions—when one company buys another—and handle the financial and legal details of the transaction.
- Investment banks trade securities (stocks, bonds, currencies, commodities) on their own account and for clients, which is how they generate profits from market movements.
- They are separate from commercial banks, which take deposits from regular customers and make loans to individuals and small businesses.
- Investment banking is a high-risk, high-reward business where a single bad trade or failed deal can cost millions of dollars.
The main services investment banks provide
Underwriting is the core service. When a company wants to go public—sell shares to the public for the first time—or issue bonds to borrow money, an investment bank buys those securities from the company and resells them to investors. The bank takes the risk that it will not be able to sell all of them at the price it promised. In return, it keeps the difference between what it paid the company and what it collects from investors. This spread is the bank's fee.
Mergers and acquisitions (M&A) advisory is another major line of work. When one company wants to buy another, the investment bank advises on the price, structure, and financing. It may arrange loans to help pay for the deal, or help the buyer issue new stock to raise the money. The bank charges a percentage of the deal value—typically 1 to 2 percent—which can amount to millions of dollars on a large transaction.
Trading is the third pillar. Investment banks buy and sell stocks, bonds, currencies, and commodities for their own profit and on behalf of clients. A trader at an investment bank might buy a block of stock in the morning and sell it in the afternoon for a small profit per share, but across thousands of shares that adds up. Trading is also where investment banks take the biggest risks and can suffer the largest losses.
How investment banks differ from commercial banks
A commercial bank takes deposits from individuals and businesses, pays interest on savings accounts, and makes loans to people who want to buy homes or cars. JPMorgan Chase and Bank of America both operate as commercial banks—they have branches where you can open a checking account—but they also have investment banking divisions that operate separately.
After the 2008 financial crisis, U.S. law required that commercial and investment banking be kept more separate than they had been. The rule, called the Volcker Rule, limits how much of a bank's own capital can be used for trading. The intent was to prevent a bank from taking huge trading losses that could threaten the deposits of regular customers.
Investment banks that do not take deposits—firms like Goldman Sachs and Morgan Stanley—operate under different rules and do not have the same obligation to protect customer deposits. They are riskier in some ways because they rely on borrowing money from other financial institutions and from capital markets to fund their operations.
How investment banks make money
Investment banks earn revenue from four main sources. Underwriting fees come from arranging stock and bond sales. Advisory fees come from M&A work and other consulting. Trading profits come from buying and selling securities. Principal investments come from the bank's own money invested in companies, real estate, or other assets.
In a strong market year, trading and principal investments can dwarf the fees. In a weak year, when deal volume drops and markets are volatile, investment banks can lose money. Employees at investment banks—especially traders and deal advisors—often receive large bonuses tied to the profits they generate, which is why compensation at these firms can be extremely high.
Investment banks also lend money to clients and earn interest, similar to commercial banks, but usually in much larger amounts and for specific purposes like financing a merger or funding a real estate development.
The risks investment banks take
Investment banks are exposed to market risk—if they own a stock or bond and its price falls, they lose money. They are exposed to credit risk—if they lend money to a company and that company fails to repay, they lose the principal. They are exposed to deal risk—if they underwrite a stock offering and cannot sell all the shares at the promised price, they absorb the loss.
Investment banks also face leverage risk. They borrow heavily to fund their operations, which magnifies both gains and losses. A 10 percent drop in the value of assets they own can wipe out 50 percent or more of their capital if they are leveraged 5 to 1. This is why the 2008 financial crisis hit investment banks so hard—many had borrowed far more than they could afford to lose.
Regulatory oversight has increased since 2008. Investment banks must hold more capital in reserve, undergo stress tests to show they can survive a market crash, and report their positions to regulators. These rules make the system safer but also reduce the profits investment banks can generate.
Career paths and compensation at investment banks
Entry-level positions at investment banks are called analyst roles. Analysts work in divisions like M&A, capital markets (underwriting), or trading. They work long hours—often 60 to 80 hours per week—and are paid a base salary plus a bonus. A first-year analyst at a major investment bank might earn $100,000 to $150,000 in base salary plus a bonus that ranges from zero in a bad year to $50,000 or more in a good year.
After two or three years, analysts move up to associate roles, where compensation rises significantly. Senior roles like vice president and managing director come with even larger bonuses and, in some cases, a share of the firm's profits. The highest earners at investment banks—top traders and deal advisors—can make millions of dollars in a single year.
The work is demanding and the hours are long, but the pay attracts talented people from top universities. Many people work at an investment bank for a few years, build their skills and their network, and then move to a corporate finance role at a large company or start their own business.
Frequently Asked Questions
Is an investment bank the same as a stock broker?
No. A stock broker is a person or firm that buys and sells stocks on behalf of individual investors. An investment bank works with large organizations and handles much larger transactions. Some investment banks do operate brokerage divisions that serve individual investors, but that is not their main business.
Can I open an account at an investment bank?
Most investment banks do not accept deposits from individuals. They work with institutional clients—pension funds, insurance companies, other banks, large corporations. Some investment banks have wealth management divisions that serve high-net-worth individuals, but you typically need millions of dollars in assets to be a client.
What happened to investment banks during the 2008 financial crisis?
Several major investment banks failed or were forced to merge. Lehman Brothers, one of the largest, went bankrupt. Bear Stearns and Merrill Lynch were sold to other banks at steep discounts. The government provided emergency loans to keep others afloat. The crisis exposed the risks of excessive leverage and poor risk management.
Do investment banks still exist after the Dodd-Frank Act?
Yes. The Dodd-Frank Act, passed in 2010, added new rules and oversight but did not eliminate investment banking. The Volcker Rule restricted proprietary trading, and banks must hold more capital and undergo stress tests. Investment banks still underwrite securities, advise on mergers, and trade, but with more regulation than before.
What is the difference between an investment bank and a private equity firm?
An investment bank advises on transactions and trades securities. A private equity firm buys companies outright, usually with borrowed money, and then works to improve them and sell them for a profit. Private equity firms are investors; investment banks are intermediaries and traders.