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The ultimate primer for your first job in investment banking, hedge funds or private equity

Antique golden compass

Do you really understand how financial markets work? How an investment bank, hedge fund or asset manager operates and how they fit into the wider scheme of things? If you’re going for an entry-level job in finance, you’ll need to know this stuff – and explain exactly why you want to work in the particular sector you choose.

Handily, financial services think-tank New Financial has just released a new report on the importance of capital markets in the UK. Within this, it explains exactly how the different elements of the financial ecosystem work and how they interact with one another.

From the UK’s perspective, Brexit has the potential to see the whole financial sector unravel very quickly. As the chart below shows, the City currently hosts 87% of all EU staff at U.S. investment banks. The UK also has 78% of hedge fund assets and the same proportion of the gargantuan FX market.

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Access to the single market in Europe has been key to the City’s dominance, and it’s this that’s threatened by the UK’s exit from the EU. This isn’t about a few trading jobs having to relocate to Frankfurt, it’s about the City’s place as the hub for financial services threatening to tumble like a badly-stacked Jenga tower. No wonder Theresa May is already talking up a sweet deal for financial services and why other European financial centres want a piece of the pie.

OK, ready for your capital markets 101 primer? Here goes.

1. Investment banks sit in the middle of pools of capital

Capital markets are all about ‘deep pools’ of capital that keep the whole thing ticking over, says New Financial. In the UK, pension funds, insurance firms and individual investors provide a collective £4.5 trillion in capital and investment banks (together with consultants and other intermediaries) sit in the middle.

Screen Shot 2017-03-30 at 10.29.312. Investment banks, lawyers and PR firms are all central to getting M&A deals done

13,000 acquisitions worth £500bn have been completed over the past five years, according to Dealogic data cited in the New Financial report, and – on average – investment banks get 1% of the value of a deal. Banks advise companies on potential M&A deals, which simply means they have clients who want to expand by buying companies (or parts of companies) and those that might want to sell. Once a deal is agreed in principle, an investment bank will advise pricing and give guidance on how shareholders might react. Mega-deals make the news, but the the average deal size in the UK is £38m.

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Find our M&A sector description here.

3. Debt capital markets (DCM) are where the real action happens

Companies raise far more money through issuing debt than by tapping equity markets – UK companies have borrowed £1 trillion of debt, compared to raising less than £150bn in the equity markets.

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Find our DCM sector description here.

4. Secondary deals make equity capital markets (ECM) tick

£95bn was raised from 2011 to 2015 by companies issuing more shares once they’ve gone public – called secondary deals – compared to £40bn in the headline-hogging initial public offering (IPO) space. IPOs are when previously private companies decide to raise capital by going public – namely issuing share of their companies on the stock market. Banks advise companies on the price, timing and structure of the deal and then collect orders from investors, allocate share to them and then set the final price. This is called book-building. After that, banks’ sales and trading divisions will handle the activity on the secondary market – or stock-market in layman’s terms.

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Find our ECM description here.

5. Investment banks, asset managers, pension funds, hedge funds, individuals and governments sit on both sides of the trading cycle

But most trading takes place between the investment banks themselves, followed by hedge funds and high frequency trading firms. Again, equities are a smaller part of the market than other asset classes – the FX market trades $2.5 trillion every day in the UK, and $1.5 trillion is traded on the derivatives market.

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Find our sales and trading description here

6. A lot of firms are involved with hedge funds

There are around 800 hedge funds in the UK managing £320bn. Hedge funds use external capital to make bets on various asset classes and take money from a variety of sources – but never regular retail investors. Again, institutional investors like pension funds and insurance funds feed the bulk of capital into hedge funds, but fund of funds (ie, companies advising other investors on choosing a pool of hedge funds in which to invest), family offices – which usually manage the money of rich families – and wealth individuals. Sovereign wealth funds – which usually invest government money – also provide a decent chunk of money, as well as the hedge funds’ own employees.

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Find our hedge funds description here

7. The UK’s asset management industry is huge

The biggest in Europe, with £6.4 trillion in assets under management. Most of this (80%), is managed on behalf of large institutional investors like pension funds or insurance companies.

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Find our asset management description here

8. The UK accounts for half of all private equity funds in Europe, but a smaller proportion of venture capital

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Find our description of private equity here

Contact: pclarke@efinancialcareers.com

Photo: Getty Images

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