Money and Banking                        

The Financial Sector: an Overview
All economic units can be classified into one of the following groups: households, business firms, and governments. Each economic unit must operate within a budget constraint imposed by its total income for the period, and can have one of three possible budget positions: a balanced budget position, a surplus position, and a deficit position. The mismatch between income and spending for individuals and organizations creates an opportunity to trade. The financial system provides channels to transfer funds from savers (or lenders) to borrowers. Financial markets issue claims on individual borrowers directly to savers (direct financing). Financial institutions or intermediaries act as go-betweens by holding a portfolio of assets and issuing claims based on that portfolio to savers (indirect financing). This matching process makes households and businesses better off by allowing them to plan their purchases and savings according to their needs and desires, which improves the economy’s efficiency and people’s economic welfare.
The financial system provides three key services for savers and borrowers: risk-sharing, liquidity, and information.
First, since individuals prefer stable returns on the assets they hold. Investors tend to hold a collection of assets (portfolio) which overall provides a relatively stable returns (diversification). The financial system provides risk-sharing by allowing savers to hold many assets.
Second, an asset is more liquid if it can be easily exchanged for money to purchase other assets or exchanged for goods and services. Financial markets and intermediaries provide trading systems for making financial assets more liquid.
Third, one of the most prominent frictions in the financial markets is asymmetric information. Financial markets institutions and intermediaries produce useful information of potential borrowers to investors.

1       Direct vs. Indirect Financing

1.1    Direct Financing
You engage in direct financing when you borrow money from a friend and give him or her your IOU or when you purchase stocks or bonds directly from the corporate issuing them. These direct financial arrangements take place through financial markets, markets in which lenders (investors) lend their savings directly to borrowers. Brokers, dealers and investment bankers play important roles in direct financing.
Dealers carry an inventory of securities from which they stand ready either to buy or sell particular securities at stated prices. The inventory of securities held by a dealer is called a position. Taking a position is an essential part of a dealer's operation. The dealers who make a market of a security quote a price at which they are willing to buy (the bid price) and a price at which they are willing to sale (the ask price). They make profits on the spreads between the bid and ask prices. Brokers provide a pure search service in that they act merely as matchmakers, bringing lenders and borrowers together. Brokers differ from dealers in that brokers do not take positions. Either a buyer or a seller of securities may contact a broker. Their profits are derived by charging a commission fee for their services.
1.2    Indirect Financing
Financial intermediaries purchase direct claims with one set of characteristics (e.g. term to maturity, denomination) from borrowers and transform them into direct claims with a different set of characteristics, which they sell to the lenders. The transformation process is called intermediation. Notice that in the financial intermediation market the lender's claim is against the financial intermediaries rather than the borrower.
In producing financial commodities, intermediaries perform the following asset transformation services: (1) Denomination Divisibility; (2) Maturity Flexibility; (3) Diversification; (4) Liquidity.

2       Types of Financial Intermediaries
Financial intermediaries can be grouped in the following way:
(1) Depository Institutions: commercial banks, savings and loan associations, savings banks, and credit unions. They derive the bulk of their loanable funds from deposit accounts sold to the public.
(2) Contractual Savings Institutions: insurance companies and pension funds. They attract funds by offering financial contracts to protect the saver against risk.
(3) Investment Intermediaries: finance companies, mutual funds, venture capitalist, and money market mutual funds (MMMFs). They sell shares to the public and invest the proceeds in stocks, bonds, and other securities.
In Taiwan, the central bank and depository institutions are called monetary institutions, because they issue monetary indirect securities (deposit contracts, RPs, etc.), while contractual savings institutions and investment intermediaries issue non-monetary indirect securities (shares and insurance policies) to finance their investments.
Among the financial intermediaries, depository institutions still dominate the industry, especially commercial banks. For the case of U.S. in 1996, commercial banks account for 26% of all assets held by financial intermediaries. The next several largest institutions are pension funds (16.8%), mutual funds (13%) and life insurance companies (12.4%). Mutual funds and pension funds are the fastest growing institutions, with only 2.9% and 6.3% respectively in 1960s. On the other hand, the shares of commercial banks and savings institutions (6.2% in 1996) have been declining drastically, from 38.2% and 18.8% in 1960s.
2.1    Investment Intermediaries
Investment institutions, which raise funds to invest in loans and securities, include mutual funds, finance companies, and venture capitalist.
(1) Mutual Funds: Mutual funds are financial intermediaries that convert small individual claims into diversified portfolios of stocks, bonds, mortgages, and money market instruments by pooling the resources of many small savers. Mutual funds obtain savers' money by selling shares in portfolios of financial assets. Thus, a saver does not have to buy numerous securities - each with its own transaction costs - rather, he can buy into all shares in the fund with one transaction. Mutual funds provide risk-sharing benefits by offering a diversified portfolio of assets and liquidity benefits by guaranteeing to quickly buy back a saver's shares. There are several types of funds. The most common type of investment companies is Open-end mutual funds issue redeemable shares at a price tied to the underlying value of the assets. The price is known as the net asset value (NAV). Closed-end mutual funds issue a fixed number of non-redeemable shares, which investors may trade in OTC markets like common stock. The composition of mutual funds' assets has undergone drastic changes over the years. The share of common stocks decline substantially over the years, while the share of government and corporate bonds increase rapidly.
(2) Money Market Mutual Funds (MMMFs): MMMFs invest in very short-term assets (within 120 days) whose prices are not significantly affected by the changes in market interest rates. Also, they provide shareholders with ready access to their funds, via wire transfers, limited check writing, or unlimited credit card capabilities.
MMMFs were introduced in the early 1970s and started to grow rapidly in late 1970s and early 1980s due to the existence of Regulation Q. The rapid growth of MMMFs drew a huge flow of funds out of the depository institutions. In 1982, Depository Institutions Act allowed banks and savings institutions to issue money market deposit accounts (MMDAs) which were exempt from interest rate ceilings and reserve requirements. Later the year the relaxation of Regulation Q and the pass of Super NOW (similar to MMDAs except that they had unlimited transactions privileges and were subject to reserve requirements) accounts in early 1983 terminated their rapid growth. The MMMFs were at a disadvantage because their accounts were not federally insured; were only limited checkable; and could not offer unlimited rates or match the promotional rates, as MMDAs offered. MMMFs did not started to resume rapid growth until banks lower the returns on MMDAs in late 1980s.
(3) Finance Companies: Finance companies make loans to consumers and small businesses. They obtain majority of their funds by selling commercial papers to investors. Other sources of funds include bank loans, long-term debts or borrowing from its parent company in the case that it is a subsidiary of another company. They are highly leveraged institutions. Usually their net worth is very small relative to their total assets. There are three types of finance companies: consumer finance companies specializing in installment small consumer loans to households, business finance companies specializing in loans and leases to businesses, and purchasing business account receivables (factoring), and sales finance companies that finance the products sold by retail dealers. Finance companies are diverse institutions. Their business structure include partnerships; privately owned or publicly owned independent companies; and wholly owned subsidiaries of manufacturers, commercial bank holding companies, life insurance companies and retailers. Finance companies are less regulated than commercial banks and savings banks because most of them do not issue insured deposits to the public and they are not chartered and regulated at the national level.
The fact that many finance companies are subsidiaries of other institutions is an evidence of the rapid rise of financial conglomerates since 1970s in the U.S.. Institutions acquired financial conglomerates because they hoped to increase the level and stability of their profits and obtain financial synergies with other lines of business. The entry of various firms into the financial arena differs with the type of firm. Some, particularly retailers and auto and consumer goods manufacturers, initially formed finance companies to help finance sales of their consumer goods. Others, such as industrial companies, formed finance companies to help finance their operations, sales and their suppliers. Many brokerage firms became financial conglomerates in order to offer banking-related products to their customers and become full-service financial institutions, while avoiding considerable regulations applied to commercial banks
(4) Venture Capitalists: A new financial intermediary, venture capitalist firms, emerged in 1970s. These are institutional investors that provide equity financing to young firms and play an active role in advising their management. These funds have been a major source of equity capital for new businesses, especially in technology-based industries.
A venture capitalist firm tend to acquire a large chunk of equities from in a new firm, and sit on the firm's board of directors to observe management's actions closely. When the venture capitalist firm supplies the start-up funds, the equity in the firm is not marketable. This is to make sure that other investment institutions cannot take a free ride on the venture capitalist firm's verification activities. A popular vehicle for investing in start-up companies is preferred stock that carries the right to purchase or to convert into common stock.

3       Financial Markets

We can classify the financial markets in the following ways:
3.1    Debt and Equity Markets
There are two ways that a firm or an individual can obtain funds in a financial market. The most common method is to issue a debt instrument, such as a bond or a mortgage, which is a contractual agreement by the borrower who promises pay the holder of the instrument fixed dollar amounts at regular intervals (interest payments) until a specified date (the maturity date) when a final payment is made. The second method of raising funds is by issuing equities such as common stock, which are claims to share the net income (income after taxes and repayments to debt holders) and the assets of a business firm. That is, equity holders are residual claimants. As a residual claimant, the priority of claim of an equity holder is junior to a debt holder. Equities usually make periodic payments (dividends) to their shareholders, and have no maturity date.
3.2    Primary and Secondary Markets
The primary market (issue market) is for the trading of new securities never before issued. There are 2 types of primary market sales of debt and equity: public offering and private placement. Most publicly offered corporate debt and equity are underwritten by a syndicate of investment banking firms. The underwriting syndicate buys the new securities from the firm for the syndicate's own account and resell them at a higher price. Due to high cost of registration required for public offering, privately placed securities are sold on the basis of private negotiations to large financial institutions, such as insurance companies and mutual funds. So, the primary markets mainly provide matching services for savers and borrowers.
In contrast, the secondary market deals in securities previously issued. Secondary markets are resale markets for existing assets. An exchange of a security in a secondary market results only in a change in ownership. But, most of the news about events in financial markets concerns secondary markets rather than primary markets. The reason why secondary markets are so important is that the secondary markets provide risk-sharing, increase liquidity of securities, and produce information services.
Secondary markets can be organized according to (1) what maturity of assets being traded; (2) how trading takes place; and (3) when settlement takes place.

3.2    Money and Capital Markets
The money market is a financial market where only short-term debt instruments (maturity less than one year), e.g. treasury bills, negotiable certificates of deposits (NCD), commercial paper, bankers' acceptances, repurchase agreements, federal funds, and Eurodollars, are traded; while the capital market is the market where longer-term debt are traded, e.g. stocks, mortgages, corporate bonds, government securities, government agency securities, state and local government bonds, and commercial bank loans. Money market instruments and many capital market instruments are traded in OTC markets through securities market institutions.

3.2.1 Money Market Instruments
(1) U.S. Treasury bills (T-bills): These are issued with 3, 6, 9, and 12 month maturities. T-bills sell at a discount and the government repays the face value at maturity. T-bills are highly liquid and virtually no risk of default, and are traded actively in the secondary market.
(2) Commercial Papers: Commercial paper provides a liquid, short-term investment for savers and a source of funds for corporations. Usually only well-established corporations and financial institutions are able to raise short-term funds through commercial papers. The flight of these creditworthy borrowers from bank loans toward commercial papers has a fundamental influence on the banking industry.
(3) Negotiable Bank Certificates of Deposits (NCDs): A certificate of deposit (CD) is a fixed-maturity instrument sold by a bank to depositors. CDs are illiquid because you cannot sell them to someone else before redemption. In 1961, Citibank created the negotiable certificates of deposits, a CD with a large denomination (today typically over $1,000,000) and could be traded at a secondary market. NCDs are an important source of funds for banks today and are held mainly by mutual funds and nonfinancial corporations.
(4) Repurchase Agreements (Repos or RPs): RPs are collateralized loans from a firm to a bank with a very short maturity, typically overnight or less than two weeks. Since launched in 1969, Repos are an important source of funds to banks. Banks may face large short-term liquidity needs, like fulfillment of reserve requirement. Thus, a loan contract is signed that a lender (a firm) technically purchases securities (T-bills) from a bank that agrees to buy them back the next morning at a higher price. The spread reflects the interest payment to the lender. Since they are collateralized, they are charged with a lower rate of interest.
(5) Federal Funds: Banks are required by law to hold cash as reserves against deposits. They are allowed to hold some reserves in the form of deposits at the Federal Reserve Banks. These deposits are called federal funds. Banks that have more deposits than required can lend to other banks that are short of reserves. Almost all loans in federal funds market are overnight loans for the purpose of meeting reserve requirements. The interest rate charged on these overnight loans is called the federal funds rate. The federal funds market reflects the credit needs of commercial banks, so federal funds rate is an important indicator of monetary policies.
(6) Eurodollars: Eurodollars are U.S. dollar-denominated time deposits that are deposited in foreign banks outside the U.S. or in foreign branches of U.S. banks. They are large-denominated deposits with maturities ranging from 1 day to 5 years. They are actively traded in secondary markets, mostly for as a substitute for similar transactions in the federal funds market. They were initially created to raise funds abroad in order to circumvent U.S. regulations such as rate ceilings. After deregulation, the importance of Eurodollars had decline, as commercial banks shift to rely on RPs for short-term liquidity.

3.2.2 Capital Market Instruments

(1) Government Bonds and Local Government Bonds

(2) Corporate Bonds

(3) Mortgages: Long-term loans to households or businesses to purchase buildings or land, with the underlying asset (house, land, or plant) serving as collateral. A major development in the residential mortgage market is a secondary market for mortgages in which mortgage-backed securities are traded.
(4) Commercial Bank Loans: Their secondary markets are not as well developed as those for other capital market instruments, and thus they are less liquid.
(5) Bank Debentures: A debt instrument issued by financial institutions to borrow long-term funds from capital market. There is no reserve requirement for bank debentures. Also, the amount of bank debentures is considered as the part of bank capital because it is a stable source of funds for financial institutions.
(6) Depository Receipt (存託憑證): In the case of Taiwan Depository Receipt (TDR), it means that the depository receipts, representing a certain amount of foreign stocks, which are kept by foreign custodial banks, are issued by banks or stock dealers in Taiwan and sold to domestic investors so that domestic investors save the trouble to purchase foreign stocks. Depository receipts are usually denominated in terms of the currency of the issue country. This reduces the risk of changes in exchange rates.
(7) Stocks: no specified maturity date.

3.2.2 Trading Places: Organized Exchanges and the Over-the-Counter (OTC) Markets.
(1) Organized Exchanges: The organized exchanges are tangible physical entities where buyers and sellers of securities (or their agents or brokers) meet in one central location to contract trades. For example, in NYSE and AMEX, a single specialist - who is assigned to a security by the respective stock exchange - is responsible for matching buyers and sellers in an orderly fashion and acting as a dealer when necessary to maintain continuous auction trading. Specialists “make markets” in those stocks listed on most of the major stock exchanges in the U.S.. They also make markets for those options listed on the New York, American and Philadelphia options exchanges. Theses market makers gather at the trading post and compete to buy at the best bid or sell at the best ask price.
Stock exchanges have specific quantitative and qualitative listing and maintenance standards which are stringently monitored and enforced. Companies listed on an exchange have reporting obligations to the exchange and a direct business relationship exists between the exchange and its listed companies.
Major stock-index, interest rates, and currency futures contracts in US are traded on future exchanges that use “open-outcry, continuous-auction markets,” in which multiple market makers and brokers meet in a trading pit and continuously negotiate trades at the best price. Typically, it is very noisy as hundreds of market makers and brokers shout, push and shove to compete for business. Since the intensity of open-outcry markets is exhausting and major financial futures contracts are traded around the world, automated trading systems are designed to capture tradings in other part of the world. The major Chicago futures exchanges (CME and COBT) developed the “Globex” trading system with Reuters, available since mid-1992, to conduct futures trading virtually on a 24-hour basis. The computer matching of orders with Globex exchange network seems so cheap and simple that one wonders why it has not been used sooner. Advocates of open-outcry markets say that it does not allow one to judge the intensity or source of supply and demand. Thus, the traders cannot have a good “feel” why the market is moving. The other reason may be that traders fear that they will lose business to computers. That is why Globex only operates at hours when future trading pits are closed.
Another advantage of computerized matching is that it preserves anonymity of the traders without revealing their identity. Many stock exchanges are computerizing at least a portion of their trading. For example, the NYSE uses a “SuperDot” that automatically routes market orders to a specialist's post for rapid execution. For the Taiwan Securities Exchange (TSE), at the beginning rotational trading was done with open outcry. Later, rotational trading was replaced by simultaneous trading of all issues. In August 1985, the open outcry system was substituted by a computer-aided system (CATS). This system has evolved into a fully automated securities trading (FAST) system in 1993. In general, the computerized matching exchanges have gained popularity rapidly.
(2) Over-the-Counter Trading: Debts, foreign currencies, forward contracts, swaps and some stocks are traded in dealer markets in which dealers who have an inventory of securities standing ready to buy and sell securities. Unlike the organized exchanges, where there is a single best bid and ask price for a standardized product at one point of time, these assets are traded by many dealers, each of whom may have a different bid and ask price and each of whom is usually located in a different place, linked by telephone or computer networks. In a dealer market, multiple market makers - securities firms that use their own capital to buy and maintain an inventory in a specific company's stock - compete for customer orders using their own capital to buy and sell specific securities. The dealers who make a market in a particular stock continuously quote a price at which they are willing to buy the stock (the bid price) and a price at which they are willing to sell shares (the ask price). The spread between bid and ask prices represents the dealer's markup, or profit. These markets are referred to as the over-the-counter (OTC) markets. In the U.S., dealers who make up the OTC markets are members of a self-regulating body known as the National Association of Securities Dealers (NASD), which licenses brokers and dealers, and monitors trading practice.
The key element of in an OTC market is that various dealers quote bids and asks for securities or contracts, and that agreements to trader are made over the phone. In many OTC markets, dealer quotes are carried on computers and posted on screen so that these quotes can be seen by all traders in the market. For some cases, trades can be entered and executed automatically, while in some cases, traders must contact directly by phones or other means to execute the trades. In the U.S., the National Association of Securities Dealers Automated Quotation System (NASDAQ) is a computerized communications system that is available for posting quotes on the most actively traded stocks with several levels of activities available. NASDAQ also organized a “small order execution system” (SOES) that allow execution of small orders (up to 1000 shares) automatically by using computerized buy and sell orders. Currently, the majority of stocks are traded over the counter and trading volume is greater on NASDAQ stocks than on NYSE. However, more than half of the dollar volume of stock trading takes place on the exchanges. In Taiwan, small orders of OTC market tradings are executed by computerized matching through brokers, and large orders can be negotiated through dealers.
The NASDAQ Stock Market is distinctly separate from the U.S. OTC market and the OTC Bulletin Board (OTCBB) quotation system, although they all are regulated by the National Association of Securities Dealers (NASD). An OTC equity security generally is any equity that is not listed or traded on a national securities exchange (NYSE and AMEX) or NASDAQ. Dealers communicate by wire and telephones to negotiate the deals. The OTC market consists of unlisted securities. Issuers of these securities often have no reporting obligations to any federal regulatory authority. The OTCBB is unlike the NASDAQ Stock Market in that it: (i) does not impose listing standards or requirements; (ii) does not provide automated trade executions; (iii) does not maintain relationships with quoted issuers; and (iv) does not have the same obligations for market makers.

3.3    Spot and Futures Markets
A spot market is one where securities are traded for immediate delivery (usually within one or two business days). A future market, on the other hand, is designed to trade contracts calling for the future delivery of financial instruments. Households and businesses use financial futures, forward contracts, options, swaps, and various types of derivatives to reduce their exposure to the risk of price fluctuations in spot markets (or sometimes even to bet on future price fluctuations).

4       Other Financial Institutions in Securities Markets

Other financial institutions in the securities markets include investment banks, brokerage firms and organized exchanges. These securities markets institutions are not financial intermediaries because they do not acquire funds from savers to invest in borrowers; they make it easier for investors to locate suitable borrowers and to reduce borrowers' costs in raising funds. We have discussed organized exchanges, now we discuss the first two institutions. The focus here is on the risk-sharing, liquidity and information production of these institutions, and their role in matching savers and borrowers.
4.1    Investment Banks
The term investment bank is somewhat misleading, because what they do have little to do with the traditional activities of commercial banking (taking deposits and making loans). What they do is in the area of securities activities such as underwriting and sale of securities. Countries where investment banking and commercial banking are combined have what is called “universal banking” system. Universal banks are institutions that can accept deposits, make loans, underwrite securities, engage in brokerage activities, and sell other financial services such as insurance. Most European countries allow universal banking.
Early investment banks in the U.S. trace their origins to the prominent houses in Europe. They were partnerships and were not subject to regulations that applied to corporations. While commercial banks were corporations that were chartered exclusively to issue bank notes (money) and make short-term business loans. As such, investment banks were referred to as private banks at that time. The golden era of investment banking began after Civil War. The need for huge capital to invest in railroads and subsequent industrialization created the demand for financial services in underwriting securities, investment consulting, trading securities, and mergers and acquisitions, and so on. Later when commercial banks were allowed to do investment banking, the two types of financial institutions were almost fully integrated by 1930s.
The Glass-Steagall Act of 1933 separated the activities of commercial banks from those of the securities industry, due to the public impression that investment banking activities should be blamed for the wave of bank failures during the Great Depression. In recent years, however, the wall between investment banking and commercial banking is gradually falling apart due to financial innovations and deregulations. Glass-Steagall Act was finally abolished in 1999. The well-known investment banking firms in U.S. are Merrill Lynch, Lehman Brothers, Credit Suisse First Boston, Goldman Sachs, Morgan Stanley, and Solomon Brothers. Their market shares are 16.5%, 11.1%, 10.4%, 9.1% 8.3%, and 8.1% in 1994 respectively. The primary services of an investment bank are following:
(1) Bring new-issued securities to market: One of the basic services offered by an investment banking firm is to bring to the primary market new debt and equity securities issued by private firms or government units. New issues of stocks or bonds are called primary issue. If a company has never offered its securities to the public before, the primary issue is called an initial public offering (IPO). If the company already has similar securities trading in the market (for example, a 5-year bond with coupon rate 6%), the primary issue is called a seasoned offering. The problem faced by investment banks is to correctly price IPOs because they have never been traded in the market. There are three steps in completing the issue of new securities: (a) Origination: The investment bank helps the issuer analyze the feasibility of the project and determine the amount of funds to borrow; decide on the type of financing (debt or equity); design the features of securities such as maturity, coupon rate, and call provision and/or sinking fund for debt issue; and provide advice on the date of issue to get the highest possible price. After approved by the Securities and Exchange Commission (SEC), part of the registration statement, called the prospectus, is distributed to the public. (b) Underwriting: Underwriting (or risk bearing) is what most people think that investment bankers do. Underwriting is the process whereby the investment banker guarantees to buy the new securities for a certain price. The risk exists between the time the investment banker purchase the securities from the issuer and the time the investment banker resells to the public. For example, if interest rates jump up before the new bonds are resold in the market, the price of bonds drops and the investment banker will take a huge loss. It the risk is too high, investment bank may not guarantee the price, and rather, it sells the issue on an all-or-none basis. In this case, the issuer receives nothing unless the investment bank sells complete issue at the offering price. Another alternative, called best efforts, allows the investment bank to make no guarantee, but simply to sell the issue as much as it can. To reduce the risk of underwriting, the underwriters form syndicates that comprise other investment banking firms. Each member of the syndicate is responsible for its pro rata share of the securities being issued. (c) Sales and Distribution: The securities are resold to the public in either retail sales (sales to individuals) or in institutional sales (block sales to institutions such as pension funds, insurance companies and mutual funds)
(2) Trading and Brokerage: Investment bankers also provide services as brokers or dealers for existing securities in the after-market; that is, they make secondary markets for existing securities. An investment banker acts as a broker by matching buyers and sellers to earn a commission, or acts as a dealer by carrying an inventory of securities from which it executes buy and sell orders and trades for its own account. For the latter activity as a dealer, the investment banker engages in “making a market” and is known as a “market maker”. Examining the balance sheet of securities brokers and dealers, the largest item in their assets is security credit. This represents funds that brokerage firms have loaned to their customers for the purchase of securities with margin accounts. That is, their customers buy securities partly with borrowed money from them (margin trading). For example, if a customer uses a 25% margin, it means that only 75% of the money comes out of the customer's pocket. The largest sources of funds for dealers and brokers are short-term loans from commercial banks and customer credit balances. Short-term bank financing is in the form of call loans collateralized by the securities being financed, and of repurchase agreements (RPs, sale of the securities to the lender by the borrower, who then promises to repurchase the securities at a higher price). Call loans and RPs are usually arranged on a daily basis.
(3) Private Placements: For many securities, the sale of securities by public sale is not feasible. A private placement is a method of issuing securities in which the issuer sells the securities directly to the ultimate investors. Because there is no underwriting in the private placement deal, the investment banker earns its fee by bringing buyer and seller together, helping determine a fair price for the securities and executing the transaction.
(4) Other Activities and Recent Trends
Investment banks also engage in services for mergers and acquisitions (M&A), corporate restructuring, financial consulting and real estate investment and brokerage. During 1980s, financiers used investment banks to raise large amounts of money through junk bonds (bond rating below Baa by Moody's and BBB by S&P). Michael Milken of Drexel Burnham Lambert helped to develop a liquid secondary market for junk bonds, but filed for bankruptcy in 1990. Also in the 1980s, investment banks engaged in merchant banking, that is, they placed their own funds at risk by investing in firms that were undergoing restructuring. In the 1990s, investment banks have engaged in deleveraging, helping firms to raise equity in public markets to reduce their debt burdens.
4.2    Brokerage Firms
Brokerage houses compete for investors' business by offering a variety of services that are provided by stockbrokers or account executives. Stockbrokers must be licensed by the organized exchange on which they place orders and are regulated by National Association of Securities Dealers (NASD). Full-service brokerage firms offer a variety of services from execution of trades, margin credit, and cash management to investment advice. Later discount brokerage firms emerged offering fewer brokerage services, but charging lower commissions