In late 2009, Lloyd Blankfein, the CEO of Goldman Sachs, told the Times of London, “We help companies to grow by helping them to raise capital. Companies that grow create wealth. This, in turn, allows people to have jobs that create more growth and more wealth. We have a social purpose.” The media really picked up his throwaway comment that they are doing “God’s work”. What I found interesting was the stated social purpose, which I happen to agree with; however, that is not where the revenues and profits are coming for the big investment banks. (Read: Wall Street bonuses, in large part, are not based on this “social purpose”)

What I find so fascinating about studying the world of investment banking is that the percentage of “investment banking” revenues from firms based in the United States that actually comes from Capital Formation is a small number. The vast majority of revenues are essentially balance sheet transactions, or “proprietary trading”.

The next time you read a financial report from an investment bank, look carefully at what percentage of revenue is actually coming from Capital Formation. Directly from the SEC’s website: “The mission of the U.S. Securities and Exchange Commission is to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation.” The vast majority of investment banking revenues today come from balance sheet transactions and not facilitating capital formation. I know some will argue that the investment banks need to create and maintain liquidity for the sake of “efficient” markets. Really? Isn’t that what all the other market participants do? Like the ones that have stated investment policies and true fiduciary responsibilities to their stakeholders (like pensions, endowments, mutual funds etc. etc.). Stay tuned, I will post some interesting numbers on what “capital formation” is as a % of revenue for investment banks.
Patrick E. Donohue, CFA

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