Lecture 7 What you d better know before starting your MSc Finance degree

Transcription

1 Lecture 7 What you d better know before starting your MSc Finance degree Manuela Pedio Prep Course in Quant Methods for Finance August-September 2017

2 Who am I? I graduated from Finance in 2013 (so I still remember how it is like) I work for the Market Division of an investment bank, where I am selling structured products..but I am not here to talk for/about my institution or investment banking in itself So, what am I going to talk about??? 2

3 The aim of this lecture What kind of professional career path can you expect after the MSc in Finance? How does a financial institution really work and is structured? Why do you need what you will be taught in the MSc Finance? What do you definitely need to know before starting the MSc? 3

4 How do we answer these questions? This short lecture will try to answer these important questions addressing the following topics: What kind of job would you be likely to have after your MSc Finance? Which tasks do you feel congenial to? You will discover that the finance industry is not all about M&A deals (but is also about M&A deals) What is each of these jobs about? We will shortly review the core activities/tasks implied by each job, particularly focusing on the banking industry What will you study? We will review which topics you will face in the next two semesters and when/why you will need them in practice, in your potential jobs 4

5 Finance in the movies... Wall Street (1987) The Wolf of Wall Street (2013) The Big Short (2015) 5

6 and in reality (1/2) CORPORATION X CORPORATION Y COMMERCIAL BANK CORPORATION Z Funding / liquidity (loans, revolving credit facilies, commercial paper, etc) Consumer Loans Mortgages Deposits PENSION FUNDS MUTAL FUNDS INSURANCE Investiments / coverages (consumption deferral) MR XY MR ZZ MRS XY 6

7 and in reality (2/2) CORPORATION X CORPORATION Y COMMERCIAL BANK CORPORATION Z Hedging solutions Help to fund in the capital markets Advisory (i.e., M&A) Etc., etc PENSION FUNDS MUTAL FUNDS INSURANCE INVESTMENT BANK Structuring Brokerage services Etc., etc. MR XY MR ZZ Hedging solutions / ALM (including securitisations) Brokerage services Etc., etc. MRS XY 7

8 and even more actors CORPORATION X CORPORATION Y COMMERCIAL BANK CONSULTANTS ASSET MANGERS PENSION FUNDS MUTAL FUNDS CORPORATION Z EXCHANGES INVESTMENT BANK MR XY CLEARING HOUSES CUSTODIANS MRS XY INSURANCE MR ZZ 8

9 What job are you likely to have after your MSc Finance? You have seen that finance is not all about M&A and not even all about investment banking! One can single out at least five key occupational areas you should become familiar with: 1 Commercial banking: Retail banking (payment systems, overdrafts, loans, credit/debit cards, custodian services, depositary services, etc.) Global Transaction Banking (cash management, such as international payments; international trade finance. such as international letters of credit; export finance; FX linked transactions etc.) at the service of corporations and financial institutions 9

10 What job are you likely to have after your MSc Finance? Finance is not all about M&A and not even all about investment banking! 2 Investment Banking: IBD (Investment Bank Division) as it is (not very properly) commonly called, includes M&A Equity Capital Markets (ECM) Debt Capital Markets (DCM) Structured Finance (Leveraged Finance, Securitisation, Project Finance, etc.) Private Equity The Markets Division includes both Sales and Trading (dealing, market making, brokerage) and Research 10

11 What job are you likely to have after your MSc Finance? Finance is not all about M&A and not even all about investment banking! 3 Risk Management: In existence in both Commercial Banks, where it is mainly credit risk management, and Investment Banks where it is credit (counterparty) risk management and market risk management It is usually independent from the other divisions (because it needs to be super-partes) 11

12 What job are you likely to have after your MSc Finance? Finance is not all about M&A and not even all about investment banking! 4 Asset Management: It can be a third division of the Investment Bank in addition to IBD and Markets or it can be spined off to an indipendent institution controlled by the same bank It manages mutual funds, pension funds, alternative funds, etc. 5 Private Banking & Wealth Management: It advises high net worth on how to manage their money 12

13 What job are you likely to have after your MSc Finance? Finance is not all about M&A and not even all about investment banking! In additions there are many other jobs you can perform well into and actively seek: Consulting Finance Department /Treasury divisions of big corporations (see article cited in lecture 5) Insurance companies Rating agencies Hedge Funds Regulatory market agencies 13

14 What job are you likely to have after your MSc Finance? This listing/review of potential jobs in the financial industry is not exhaustive! In the rest of this lecture, I will discuss the contents required by a few of these jobs and the core competencies that you would have to acquire to perform well in them In particular I will focus on: IBD Markets with some notes on: Asset Management Risk Management 14

15 A short overview of a typical investment bank Please bear in mind that every investment bank has its own organization; these broad definitions are just to give an idea of the structure of a typical investment bank IBD (Underwriting / Advisory services) Markets (Sales & Trading, Brokerage and Research) Asset Management 15

16 Investment Banking Division/1 Investment Banking Division (let s call it this way, as most people in the industry do) Help client to get financing in the markets, offering, structuring and underwriting services Through the issue of debt or equity instruments CAPITAL MARKETS (ORIGINATION) ECM DCM By repackaging and re-selling their asset STRUCTURED FINANCE 16

17 Investment Banking Division/2 Investment Banking Division (let s call it this way, as most people in the industry do) Pure advisory services (design, structuring, execution): M&A PROJECT FINANCE 17

18 Investment Banking Division/3 Investment Banking Division (let s call it this way, as most people in the industry do) What are the main features of a job in IBD (apart from long hours)? Your client will be corporations and other financial institutions (e.g., commercial banks, insurances, etc.) A major task will be to form an opinion on the fair price of the securities to be issued (ECM/DCM/structured finance) or of a corporation/branch/division (M&A) You will be using valuation models (like Dividen Growth Model, Discounted Cash Flow, Multiple models) and plug into them a lot of assumptions 18

19 MSc courses most useful to IBD people If you will work in IBD you will find particularly useful the courses listed below: 1 Financial reporting and analysis, aka accounting (first semester): a clear understanding of the balance sheet of the firm is essential, as it comes to apply valuation models 2 Business Valuation (first semester): will teach you not only the valuation methods, but also how to formulate resonable assumptions 3 Investment Banking (second semester): will further discuss what I justed hinted at and to better explain how the IB division works 4 Financial Law (second semester): will give you a background on the legal framework in which you will operate (e.g., the Takeover EU Directive) 19

20 Markets/1 Regarding Markets, the first broad distinction I would mention is the one among different functions TRADING/ BROKERAGE SALES Sales are in the middle because they interact with all the other functions and deliver the final products to clients RESEARCH STRUCTURING 20

21 Markets/2 Let s take a look at the role of each of these functions Brokers: they provide market access to clients (which typically are other financial institutions and the other divisions of the bank itself); this means that they do NOT deal on their own account, but on third party accounts Traders: they are typically involved in two main activities, i.e., market making and hedging - I will devote the next slide specifically to them Sales: they develop relationships with clients (usually other financial institutions), understand their needs, and cooperate with the structuring and trading functions to bring to the client the best solution; they eventually monitor the execution and post-sale phases Structuring: this function supports sales in the creation of new solutions for the clients and supports trading in its pricing activity Research: this functions produce research on each asset class and on macroeconomic conditions, to be distributed to clients to support sales and brokerage business 21

22 Markets/3 I will specifically focus on the role of traders because many students are usually confused about what a trader really does Traders are NOT asset managers and do NOT usually do stock picking, buying undervalued stocks and selling overvalued ones Prop trading desks are rare in investment banks; they are more common in commercial banks, where they deal with the bank own portfolio; however, commercial banks usually invest in bonds (especially Govies) Traders are involved in: Market making: they hold an inventory of securities (issued by the bank itself or from third parties, e.g., Govies) and provide liquidity to the market by committing to always post a quote to buy or sell these securities; they gain from the bid-offer spread Hedging : they hedge the risks deriving from the positions that the bank takes to satisfy the need of clients 22

23 Markets/4 There are different group of sales, traders and structurers for each type of product BOND / CREDIT CORPORATE GOVIES EQUITY DERIVATIVES EQUITY RATES COMMODITIES 23

24 Markets/5 Quickly, a bit of jargon FLOW STRUCTURED Everything that is vanilla is usually called flow business (e.g. calls, puts, etc.) When the product is exotic (such as a lookback option) or is a combination of more products (e.g. complex option strategies) we talk about structured business SOLUTION SALES Solution sales are the ones that offer to clients (typically financial istitutions) complex strategies to deal with asset & liability management 24

25 MSc courses most useful to Markets people If you will work in Markets you will find particularly useful the courses listed below: 1 Derivatives I & II (first and second semester): almost all the desks in the trading room deal directly or indirectly with derivatives; an understanding of these instruments is fundamental to work in markets 2 Theory of Finance (first semester): market people cannot ignore the basics of Theory of Finance, such as CAPM and APT 3 Econometrics I & II (first and second semester): even if few people realize this, econometrics is really useful, for example to model and forecast the volatility of returns 4 Financial Law (second semester): understanding the legal framework (e.g. MIFID rules, the Market Abuse EU Directive) is crucial also to market people 25

26 Some caveats Be careful: I broadly associated the various exams with the jobs for which they are most useful these DOES NOT mean that if you are planning to do M&A you can ignore quantitative exam and vice-versa! A IBD professional has often to make assumptions : quantitative techniques can provide a good way out in many occasion Just to give an example (many others are possible), let s assume that you have to evaluate a company and you have to estimate an appropriate discount rate for your predicted cash flows: many valuation textbooks will suggest you to use the CAPM (which you will be studying in Theory of Finance) On the other hand, market people often cooperate with their M&A peers (especially with DCM and ECM guys) 26

27 Asset Management As the name suggests, asset management is about asset allocation Asset managers manage the money of their clients indirectly (fund managers) or directly (portfolio managers) Their task is to generate value for their clients by beating a given benchmark specified ex-ante (if they just replicate the benchmark, there is no reason for the client to pay for the service!) In practice, they need to decide which weight they want to assign to each asset (or asset class) in their portfolios They need good quantitative skills and a deep understanding of portfolio theory (see e.g., Econometrics and Theory of Finance) In addition, they have to be able to read specific research on stocks / sectors, so they need knowledge of valuation techniques Finally, they need a good understanding of the macroeconomic environment 27

28 Risk Management Risk Management is typically an independent division Risk Management division has gained extreme importance after the financial crisis There are many types of risk that a bank has to deal with: Market risk (the risk of losses due to changes in market factors such as rates, exchanges, equity returns, etc.) Credit risk / Counterparty risk (the risk of losses due to the default of a counterparty) Operational risk (all the risk connected with operations, e.g. human errors, incidents, frauds, etc.) Risk managers typically estimate potential losses using the data about past losses so they need quantitative techniques (see, e.g. Econometrics) Risk management will also have one dedicated, second semester exam 28

29 Examples from real life Before leaving you, I would like to make some reflections with you on what you can expect from the real life Warning: among the huge number of jobs you can do, I chose to further discuss M&A and trading, not because they are the most important, but because there are so many films and rumors about these jobs that typically students develop excessively imaginative ideas Situation 1. Antonio is a junior analyst in M&A. How do you think he will be spending your day today? What key competences do you think that he has / is developing? What are the most painful part of the jobs? What are the most rewarding? Situation 2. Marta is a junior equity derivative trader. How do you think she will be spending your day today? What key competences do you think that she has / is developing? What are the most painful part of the jobs? What are the most rewarding? 29

30 Some good books you can read If you want to get the feeling about the financial system I can suggests some books (sorry, a little bit biased towards markets) The Front Office Manual. The definitive guide to Trading, Structuring and Sales. (Andrew Sutherland, Jason Court) VERY ADVICED if you have an interview in the market division Too big to fail A very complete and well written review of the 2008 financial crisis The intelligent investor (Benjamin Graham) Bible of stock investing since

31 The secret to happiness is not in doing what one likes, but in liking what one has to do (J. M. Barrie, writer and dramatist) 31