Banks organize around customer types: retail, commercial, investment, and institutional. Retail banks profit from deposit spreads; investment banks charge advisory fees; commercial banks handle payments and trade finance. The mixing of these activities created risks that led to the 2008 crisis and UK regulatory separation.
Chapters
Welcome to part 2 of our breakdown of how banks work. In part 1, we explored the simple business of banking: receiving deposits, lending money, and earning a spread. However, in reality, many of the large banks you have heard of offer a wide range of products focused on different customer types. There are a lot of different ways that banks split out their solutions.
But one way to think about how banks are structured is to focus on the type of client each product serves: individuals, companies, and institutional investors. Individuals tend to interact with the retail bank, making money through the simple act of taking deposits and lending money. If you are wealthy enough, you may gain access to the wider range of services offered to high net worth individuals, where banks receive both spreads, and product and advisory-related fees. High-quality retail banks offer brilliant customer service and a wide range of well-priced retail banking products. Companies, small and large, tend to interact firstly with a commercial bank, which supports companies with their core business operations, from payments and cash management through to trade finance and risk management. A commercial bank also offers a wide range of lending products, which forms the basis of the bank's business model. Larger companies will also interact with the investment bank, where fees are earned based on the quality of advice and speed of execution across corporate strategy and fundraising. Finally, institutional investors, also known as the buy side, will be the primary clients of a bank's global markets division. Here, the bank offers a wide range of execution services relating into investing and trading activities. The best banks will win based on the quality of their execution, risk management, and strategic expertise. Now, in reality, the line between client types is blurred, with both retail and business customers taking advantage of global markets products. As you can see, banks can get extremely complicated. In fact, the complex jumbling of risk across —retail, commercial, and investment banking—was one of the causes of the Global Financial Crisis, as liabilities from one part of the bank compromised other, safer divisions. This affected the UK banks to the extent that core retail banking and associated deposits were separated from investment and international banking activities.
