Main activities of commercial and investment banks in the capital markets - Essay Example

Main Activities of Commercial and Investment Banks in the Capital Markets Commercial banks provide capital market related services, depository services, advises on portfolio management or investment counseling, etc. Many banks have now started offering investment services to the retail customer, which is essentially advice and execution of mutual fund investments and redemptions. COMMERCIAL BANKS & CAPITAL MARKET PRODUCTS The Commercial Banks can be referred to as institutions that are involved in credit activities. Credit activities can be classified into deposit acceptance and borrowing funds from other banking institutions. Other activities are credit extension, risk management and risk advice. The classification of the types of services that are offered by a commercial bank is as follows: Discretionary Services - Decisions are taken on behalf of the clients/customers by a portfolio manager keeping in view the different parameters of asset allocation. Non-discretionary Services - In this kind of services, portfolio managers do not have the right to take decisions on behalf of clients/customers. The client or the customer is needed to authorize all the transactions happening with respect to their account. The non-discretionary services offered by a banker can be listed as follows: Advisory services - Flexible, unbiased investment advice customized to meet the client's needs. Transaction support - All transactions, both in the primary and secondary markets facilitated through a panel of brokers. Custodial services - Important from the point of view of removal of settlement hassles and efficient follow-up of all corporate actions. Commercial banks approach the brokers for information about the quotes of other commercial banks. The broker serves three important purposes in the foreign exchange markets. First, instead of hunting around in the market for quotes, one can approach a broker and find out these prices. Second, brokers help the prospective buyer or seller keep his identity secret till the deal is struck. This prevents the quote being affected by the inquirer's position, i.e. whether he needs to buy or to sell. Lastly, even when there is no buying or selling requirement, commercial banks can keep their quotes from going too far away from the quotes being given by other banks, by inquiring about the market quotes from the brokers. Investment banks help both the government and corporate in raising money by trading in the securities markets. Large investment banks deal in the market both to execute their clients', (both corporate and individuals) orders and on their own account. They act as market makers in the foreign exchange markets, i.e. they stand ready to buy or sell various currencies at specific prices at all points of time. The commercial banks give, on demand, a quote for a particular currency against another currency, i.e., the rate at which they are ready to buy or sell the former against the latter. At these rates they stand ready to take any side of the transaction (buy or sell) that the customer chooses. The maximum and the minimum amount of the currencies acceptable to the bank at these rates, though not specified at the time of making the quote, are generally understood according to the conventions of the market. These rates may not necessarily be applicable to amounts smaller or larger than those acceptable according to the going conventions. In the foreign exchange markets there are numerous market makers, and all of them would be giving different quotes for the same pair of currencies simultaneously, at any point of time. It would be very difficult for a player to keep track of all the quotes available in the market, and hence choose one which is considered the most favorable. As a result, a number of trades may be taking place simultaneously at different exchange rates. The market making activity of the commercial banks, along with speculation, makes markets extremely liquid, especially for the major currencies of the world. The market in which the commercial banks deal with their customers (both individual and corporate) is called the retail market, while that in which the banks deal with each other is called the wholesale or the interbank market. The size of the deals in the retail market is much smaller than that in the interbank market. With respect to financing different businesses, the role played by the Securities market has become very important. Shares and securities of different corporations and institutions that are existing in the Capital market are issued by the banks. Investment banks are capable enough in managing issues successfully. Investment banks also have necessary capacity to attract potential investors. Hedging or underwriting possible risks is also a function of the Investment banks. Apart from trading in securities and bonds, the investment banks also keep focusing on the orders of their already existing customers and are also highly involved in proprietary trading. Banks do have a great earning potential from these kinds of services. Competition between the Commercial and Investment banks The level and intensity of competition has increased in the financial services industry or the capital market industry as banks and their competitors in the market have expanded the services that are being offered by them. The local banks offering business and consumer credit, saving and retirement plans and financial counseling faces direct competition from other banks, non-banking financial institutions, credit unions, securities firms, financial markets, insurance companies, etc. Such amount of cut-throat competition in the market results in the commercial banks lowering the charges on the financial advice service. There has been a rapid expansion in the menu of financial services that are being offered by the commercial and investment banks in the recent past. This proliferation of services has accelerated over the years under the pressure of increasing competition from other financial firms. It has also increased bank costs and posed a greater risk of bank failure. The new services have has a positive affect in the industry through a new source of bank revenue called as non-fund based income, which are likely to grow relative to the more traditional sources of bank revenue (interest income.) References: 1. Financial Management for Managers, published by ICFAI University, Hyderabad, 2004. Ref. no.: FMM - 04200405. 2. Commercial Banking, published by ICFAI University, Hyderabad, 2003. Ref. no.: COMBKTB - 09200305. 3. http://www.law.nyu.edu/centralbankscenter/texts/Lithuania-Commercial%20Bank%20Law.html 4. Read More