Difference Between Banking and Investment Banking

Banking vs Investment Banking

Banking is one of the most closely regulated sectors in an economy that is also largely responsible for the country’s financial health and economic growth. Banking over the years has evolved to suit different purposes, and investment banking is one such formation to suit investment purposes. Before the Glass-Steagall Act banks were allowed to engage in both commercial banking and investment banking, whichever they preferred. However, now with the new laws and regulations a bank cannot provide both these banking services for the reason of conflict of interest. The normal banking activities and services are very different to the services provided by investment banks. The following article will guide the reader through a comprehensive analysis of the differences between these two types of banking and explain for which purposes either is most suited for.

Banking

Many of us require the services of a bank in conducting our day-to-day transactions, which is also the case for small businesses and large firms that obtain the services of the banking system. The services that are provided at a conventional bank, more commonly known as a commercial bank, include obtaining deposits from customers and providing loans. The mechanism under which commercial banks operate is simply explained as follows. The banks obtain deposits from those customers that need a safe place for the surplus funds. These funds are used by the banks to provide loans to their other customers that have funding shortages, for a fee known as interest payment. The banks also provide deposit insurance (as required by law in countries such as the United States and The United Kingdom). The loans repayments and interest will be collected as and when they are due, and a buffer of funds will be kept aside to meet with the deposit withdrawal requests. In case the customer cannot repay the loan, the asset held aside as collateral will be sold and the loan recovered. The largest commercial banks in the United States include the Bank of America, JP Morgan Chase, and Citibank.

Investment Banking

Investment banks provide services to clients through helping firms to raise capital in the stock markets by undertaking to value the company stock, provide underwriting services, conducting road shows to stimulate potential buyer interest, and help sell shares to the public. Underwriting services provided by investment banks include purchasing the company shares, taking on the risk of selling all the purchased shares to the public, etc. Investment banks also promote the sale of these shares by helping individuals and managers of funds such as hedge funds and pension funds, to purchase these shares. Another valuable service provided by investment banks is the advisory services on merger and acquisition decisions. After the collapse of the large US investment bank, the Lehman brothers Merrill Lynch, the leading US investment banks are Goldman Sachs and Morgan Stanley.

What is the difference between Banking and Investment Banking?

Investment banks have formed as a result of the developments that have evolved in the banking industry, and offer specific services, very different to the conventional banking system. Both investment banks and commercial banks serve the purpose of providing funds to those parties in need of funds, even though the methods employed are different. The primary difference between these two forms of banking is that investment banks deal with securities and conventional commercial banks do not. Under the conventional banking system, the main activities are accepting deposits and providing loans, whereas investment banks carry out the activities of helping firms raise capital through underwriting securities and providing investment advice.