Investment Banking in 2008 Essay Example | Topics and Well Written Essays - 2000 words

Investment Banking in 2008 - Essay Example This paper demonstrates the result of deregulatory measures initiated by the authorities of the United States in the decade of 1990s.The reason for such hype of the deregulatory measures has been primarily the universal bank model. The deregulatory measures allowed the investment banks to participate in the depository functions. The supporters of the deregulations believed that modern day clients preferred to do all of their business ranging from life insurance to commercial lending, from mergers and acquisition advisory to retirement planning, under one roof. And only a deregulated market could allow this to happen. Therefore, replacement of Glass-Steagall Act of 1933 (which prevented depository and brokerage functions) by the Gramm-Leach Bliley in 1999 opened a whole lot of opportunities for the bankers. With the approval to the Gramm-Leach-Bliley Financial Services Modernization Act in 1999, investment banks, insurance companies and commercial banks were equally placed in respect to the products and the markets. This led to the concentration of financial power in fewer hands and soon the investment banks were being absorbed by the commercial banks. The deviation led to the rise in pressure on investment banks to create return on equity compared to the universal banks like Duetsche Bank and as a result investment banks laid more emphasis on the traditional services like M&A, underwriting, sales and trading. Also, the intense competitive pressure led to the withdrawal of Net Capital rule. and SEC allowed unlimited and unregulated leverage (in way of debts) to their brokerage units which proved to be fatal in the long run. Remaining Competitive Against the Trend From the analysis of the case, it appears that Goldman Sachs (and also Morgan Stanley, if not others) could have surely remained competitive without increasing its leverage to boost its return on investment. In fact, Goldman Sachs and Morgan Stanley were honest enough at the outset and had written down the losses in residential mortgages and leveraged loans and tried to avoid the excessive exposure to the mortgage industry. But as Lehman Brothers declared bankruptcy, Goldman Sachs and Morgan Stanley faced increasing pressure from the investors as their profits eroded and return on equity subsided. Consequently, they decided to be the bank holding companies (under FED regulations) and initiate the depository functions which would allow them to play as commercial banks and have diversified banking operations apart from invest banking functions, which in turn would help them to stay competitive. Collapse of Lehman Brothers but Bear Stearns Saved For the purpose of bail out of Bear Sterns , Federal Reserve lent JP Morgan Chase $ 30 Billion out of which JP Morgan Chase agreed to assume responsibility for $ 1 Billion leaving the charge of other $ 29 Billion to the U.S. tax payers. But when the Lehman Brothers, which had almost 75% higher valuation of the assets (compared to Bear Sterns as on 30/11/2007) approached Federal Reserve they did not get the nod. The prime reason of such a decision by Fed is believed to be the political dominos. The decision makers hesitated to take another bail-out measure