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Securities Firms Securities Firms and Investment and Investment
BanksBanks
Chapter 4
© 2008 The McGraw-Hill Companies, Inc., All Rights Reserved.McGraw-Hill/Irwin
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Overview
In this segment ... Securities Firms and Investment Banks: Activities of securities firms and investment
banks Size, structure and composition Balance sheets and recent trends Regulation of securities firms and investment
banks Global issues
-34-3Securities Firms &Investment Banks
Nature of business: Underwrite securities. Market making. Advising (example: M&A, restructurings).
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Securities Firms &Investment Banks
Growth in domestic M&A: Less than $200 billion in 1990. $1.83 trillion in 2000 In US: bottomed out at $458 billion in 2002
($1.2 trillion worldwide) $1.3 trillion 2006 ($2.9 trillion worldwide)
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The Largest M&A Transactions
Deal Price (billions) Year
Citicorp/Travelers $83.0 1998
BOA/Fleet Boston 49.3 2003
J.P. Morgan/Bank One 60.0 2004
Chase/J.P. Morgan 35.0 2000
BOA/MBNA 35.0 2005
Wachovia/Golden West 25.5 2006
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Size, Structure and Composition
Dramatic increase in number of firms from 1980 to 1987. Decline of 37% following the 1987 crash, to year 2006.
1987: Salomon Brothers held $3.21 billion in capital.
2006: Merrill Lynch held capital of $35.5 billion. Many recent inter-industry mergers (i.e., insurance
companies and investment banks). Role of Financial Services Modernization Act, 1999
-84-8Types and Relative Sizes of Firms
National full-line firms are largest. Merrill Lynch, Morgan Stanley
National full-line firms specializing in corporate finance are second in size.
Goldman Sachs, Salomon Brothers/Smith Barney Remainder of industry:
Specialized investment subsidiaries of BHCs. Discount brokers. Regional securities firms (subdivided into large, medium
and small). Specialized electronic trading securities firms
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Top U.S.Underwriters, 2006
Manager Amount (Billions)
Market Share
SSB $668.8 8.7%
J.P. Morgan 506.1 6.6
Deutsche Bank 475.0 6.2
Morgan Stanley
454.6 6.0
Lehman Bros. 446.5 5.8
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Key Activities
Investing Investment banking
Activities related to underwriting and distributing new issues of debt and equity.
Market making Increasing importance of online trading
Technology risk Decimalization
Trading Position trading, pure arbitrage, risk arbitrage,
program trading
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Key Activities (continued)
Cash managementAssisting with M&ABack-office and service functions.
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Trends
Decline in trading volume and brokerage commissions particularly since crash of 1987, although some
recovery since 1992. Record volumes 1995-2000.
Declines in market values--and commission income 2001-2002
Resurgence in market values and commissions during mid-2000s.
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Trends (continued)
Pretax net income over $9 billion per year 1997-2000
Pretax profits soared to $21.0 billion in 2000 curtailed by economic slowdown and
September 11 attacks 2001. 2003 record pre-tax profits of $24.1 billion. Continuing worries over investor confidence
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Balance Sheet
Key assets: Long positions in securities and commodities. Reverse repurchase agreements.
Key liabilities: Repurchase agreements major source of funds. Securities and commodities sold short. Broker call loans from banks
Capital levels much lower than levels in banks
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Regulation
Primary regulator: SEC Reiterated by National Securities Markets
Improvement Act (NSMIA) of 1996. Prior to NSMIA, regulated by SEC and states. Regulate trading activities such as shelf
registration
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Regulation
Early 2000s erosion of SEC dominance Increased vigilance by State Attorneys General Spring 2003, $1.4 billion in penalties over
investor abuses. Sarbanes-Oxley Act of 2002
Independent auditing oversight board under SEC
Instigated by Enron, Global Crossings, Tyco, WorldCom
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Regulation (continued)
Day-to-day regulation: NYSE, NASD October 2003 implementation of provisions
of Patriot Act to combat money laundering Scrutiny of individual identities and affiliations
with terrorists
-184-18Investor Protection & Other Monitoring
Securities Investors Protection Corporation (SIPC). Protection level of $500,000
Federal Reserve also has role in overseeing securities firms and investment banks Vulnerability of the financial system Issue of timely settlement raised by Greenspan
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Web Resources
For details of regulation of securities firms and investment banks, visit:
SEC: www.sec.gov
NYSE: www.nyse.com
NASD: www.nasd.com
SIPC: www.sipc.org
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Global Issues
Global nature of securities firms Demonstrated by recent mergers such as
Deutsche Bank/Bankers Trust Dominance of Royal Bank of Scotland in U.S.
mortgage backed securities markets Growth in securities trading and
underwriting is a global event US accounting standards issues Depreciation of the dollar against the yen
and the euro