Investment Banking Interview Questions: Answers and Explanations
What does shareholders' equity consist of and How does net income affect it?
Shareholders' equity, also known as owners' equity, represents the residual interest in a company's assets after deducting its liabilities. It is the amount of money that would be returned to shareholders if all the assets were liquidated and all the debts were paid off. Shareholders' equity can consist of common stock, preferred stock, retained earnings, and accumulated other comprehensive income.
Net income has a direct impact on shareholders' equity by increasing retained earnings, which is the portion of net income that is not distributed as dividends but is instead kept in the company for reinvestment or to pay off debts. An increase in net income will increase retained earnings and, in turn, increase shareholders' equity. On the other hand, a decrease in net income will decrease retained earnings and decrease shareholders' equity.
Tell me what you will do as an analyst or associate in an investment bank and what attracts you to this?
As an analyst or associate in an investment bank, my role would be to support senior bankers in executing transactions and providing financial advice to clients. This may include conducting market and industry research, preparing financial models, creating pitch books and presentations, and assisting in the due diligence process. I would also be responsible for communicating with clients, managing transaction documentation, and ensuring that all relevant parties are informed and updated throughout the transaction process.
What attracts me to this role is the opportunity to work in a fast-paced and challenging environment, where I can develop a deep understanding of various industries and financial products. I am also drawn to the opportunity to work with a highly motivated and talented team, and to be a part of a process that helps companies raise capital and make strategic decisions. Additionally, investment banking offers opportunities for professional growth and the chance to work on complex and impactful transactions, which aligns with my passion for finance and drive to make a meaningful contribution to the world of business and finance.
Imagine you're meeting the CEO of a steel industrial company and She wants to know how much her company is worth. Which information do you need?
In order to accurately assess the value of a steel industrial company, I would need to know the company's financial information, such as its annual revenue, assets, and liabilities. Additionally, I would need to analyze the current market conditions and the company's prospects for future growth. Additionally, I would need to know information about the company's competitors, such as their financial performance and market conditions. Finally, I would need to know the company's brand recognition and any other intangible assets the company may possess. This information would all be used to come up with a detailed assessment of the company's value.
How does depreciation affect the financial statements and why?
Depreciation affects financial statements by reducing the value of a company's fixed assets over time to reflect the declining value of these assets due to wear and tear, age, and obsolescence. It is recognized as an expense on the income statement, which reduces net income. The reduction in net income represents the cost of using a fixed asset over a certain period of time.
Depreciation affects the balance sheet by decreasing the value of fixed assets, which are recorded as property, plant, and equipment (PP&E) on the balance sheet. The accumulated depreciation account, which represents the total amount of depreciation expense recognized over time, is subtracted from the original cost of the fixed assets to arrive at the net PP&E value. This net value is then presented on the balance sheet as a long-term asset.
The purpose of depreciation is to match the cost of using a fixed asset with the revenue generated by that asset over its useful life. This matching of expenses with revenue helps to accurately reflect the financial performance of a company over a certain period of time and provides a more accurate picture of the company's financial position. In this way, depreciation affects both the income statement and the balance sheet, providing important information for financial analysis and decision making.
What does the Investment Banking Division do and what attracts you most?
Investment Banking is a division within a financial institution or a bank that specifically helps corporations, governments, and other entities to raise capital. Investment banking includes providing advice on mergers, acquisitions, divestitures, restructuring and other financial services, such as underwriting, acting as a broker or dealer in securities, and assisting corporate clients in raising capital from equity and debt markets.
The most attractive aspect of investment banking for me is the unique opportunity to make an impact on the financial markets, through innovative and creative solutions for clients. I also appreciate the challenge of working under pressure and the variety of activities within the banking division. I believe the combination of the financial markets, corporate strategies and the challenge of making profitable transactions provide a stimulating environment that I can thrive in.
What's the NPV of $1,000 with a 10% discount rate over 10 years?
Net Present Value (NPV) is the difference between the present value of cash inflows and the present value of cash outflows. In this case, the NPV of $1,000 over 10 years with a 10% discount rate can be calculated as follows:
Year 0: -$1,000 (initial investment) Year 1: $1,000 / (1 + 0.10)^1 = $909.09 Year 2: $1,000 / (1 + 0.10)^2 = $826.44 Year 3: $1,000 / (1 + 0.10)^3 = $751.40 ... Year 10: $1,000 / (1 + 0.10)^10 = $438.65
NPV = (-$1,000)
Tell me how you choose between a company with an P/E (Price to Earning) ratio of 8 and another of 10?
The choice between two companies based on their P/E ratios is a subjective decision that depends on multiple factors. P/E ratio compares a company's current stock price to its earnings per share (EPS). A lower P/E ratio means that the company's stock is relatively cheaper, compared to its earnings. However, a higher P/E ratio does not necessarily indicate a company is overvalued, and a lower P/E ratio does not guarantee a better investment.
It's important to consider additional factors such as the company's growth prospects, industry trends, and financial health. For example, a company with a high P/E ratio but strong growth prospects and a solid financial position could still be a good investment.
In short, P/E ratio should not be used in isolation to make investment decisions, and a comprehensive analysis of the company and its fundamentals is necessary before making a final choice.
You will receive a dollar for the rest of your life then what is the value of those dollars today?
The value of the dollars in the future cannot be determined with certainty, as it is subject to inflation and other economic factors. Inflation is the rate at which the general level of prices for goods and services is rising, resulting in a decrease in the purchasing power of money over time.
To calculate the present value of future dollars, a discount rate must be applied that takes into account the expected rate of inflation and the time value of money. The discount rate represents the opportunity cost of investing the money today rather than receiving it in the future.
In other words, to determine the value of future dollars today, the expected future cash flows must be discounted to reflect the expected decline in purchasing power and the time value of money. The specific calculations would depend on the expected rate of inflation, discount rate, and the number of years in the future the payments will be received.
Explain to me how you would value a company which was very successful but due to the worst certain event from the last two quarters the company lost its reputation and also lost market share?
Valuing a company that has experienced a decline in reputation and market share is challenging and requires a thorough analysis of the company's financials and market dynamics. Here are some steps to consider when valuing such a company:
Assess the cause of the decline: It's important to understand the root cause of the company's decline in reputation and market share. Was it due to a specific event such as a product recall or was it due to a change in market dynamics such as increased competition? Understanding the cause of the decline can help you assess the likelihood of a recovery.
Evaluate the financials: Look at the company's historical financial performance and its current financial position. Is the company profitable? Does it have enough cash to support its operations? Evaluating the financials can help you determine the company's ability to weather the decline and recover in the future.
Analyze the market: Assess the size of the market and the competition. Are there any market trends that could impact the company's future performance? Are there any new entrants to the market that could further impact the company's market share?
Consider the company's future prospects: Based on the above analysis, what are the company's future prospects? Can it recover from its decline? What will it take for the company to regain its reputation and market share?
Apply a valuation method: Finally, apply a suitable valuation method to determine the company's value. There are several methods available including discounted cash flow (DCF), comparable company analysis, and multiple analysis.
It's important to keep in mind that the value of a company is subjective and can vary depending on the perspective of the analyst. The above steps can provide a starting point for valuing a company that has experienced a decline in reputation and market share.
Where do you see equity markets in three months, six months, nine months, and 12 months?
The stock market is expected to remain volatile in the short term. In the next three months, investors can expect to see an increase in stock prices, as the market continues to be buoyed by the positive economic data and strong earnings reports. In the next six months, the market is expected to remain positive, though there may be some declines as the Federal Reserve begins to increase interest rates. In the next nine months
Tell me which structured equity product would you issue in the good and bad market conditions?
The type of structured equity product to be issued in good and bad market conditions would depend on the objectives of the issuer and the investment goals of the buyers. Structured equity products are financial instruments that are designed to offer a combination of equity exposure and protection against market risk.
In good market conditions, when the stock market is performing well, the issuer may consider issuing a structured equity product that provides exposure to equity markets with limited downside risk. For example, a callable bull/bear contract (CBBC) could be issued, which allows investors to participate in the market upside while offering protection against a decline in market value.
In bad market conditions, when the stock market is performing poorly, the issuer may consider issuing a structured equity product that provides protection against market declines. For example, an autocallable product could be issued, which provides a guaranteed return if the market stays below a certain level and returns the principal if the market rises above a certain level.
In both good and bad market conditions, the issuer should consider the investment goals of the buyers and design a structured equity product that aligns with those goals. The issuer should also consider the cost and complexity of issuing the product and the level of protection it offers against market risk.
Explain options Greeks?
The options Greeks are a set of metrics used to measure the sensitivity of the price of an option to changes in various underlying factors. The Greeks are used by traders and investors to better understand the risks and potential rewards associated with options trading. The following are some of the most commonly used options Greeks:
Delta: Measures the rate of change of the option's price with respect to a change in the price of the underlying asset. Delta can be thought of as the option's sensitivity to changes in the price of the underlying asset.
Gamma: Measures the rate of change of the option's delta with respect to a change in the price of the underlying asset. Gamma can be thought of as the option's sensitivity to changes in its own delta.
Theta: Measures the rate of change of the option's price with respect to the passage of time. Theta can be thought of as the option's sensitivity to the passage of time.
Vega: Measures the rate of change of the option's price with respect to changes in implied volatility. Vega can be thought of as the option's sensitivity to changes in implied volatility.
Rho: Measures the rate of change of the option's price with respect to changes in interest rates. Rho can be thought of as the option's sensitivity to changes in interest rates.
These options Greeks are important because they provide traders and investors with a better understanding of the risks and potential rewards associated with options trading. By monitoring the Greeks, traders and investors can make informed decisions about when to enter or exit a trade and how to manage their positions. It's important to keep in mind that options trading is complex and carries a high level of risk, so it's crucial to understand the Greeks and other key concepts before entering into options trading.
Explain what a put option is?
A put option is a financial contract that gives the holder the right, but not the obligation, to sell an underlying asset at a specified price (strike price) within a specified time frame. A put option is essentially a hedge against a decline in the price of the underlying asset. The holder of the put option can exercise their right to sell the underlying asset at the strike price if the market price of the asset falls below the strike price.
For example, let's say you own 100 shares of a stock and are concerned about a potential decline in the stock's price. You could purchase a put option with a strike price of $50. If the stock price falls to $45, you could exercise your right to sell the stock at the higher price of $50. This would allow you to limit your losses from the decline in the stock's price.
In general, put options are used for hedging purposes and for speculative purposes. By buying a put option, you are effectively betting that the price of the underlying asset will decline. If the price of the underlying asset does decline, you can sell it at the higher strike price, realizing a profit. On the other hand, if the price of the underlying asset does not decline, you will simply let the option expire without exercising it, and you will lose the premium you paid for the option.
It's important to note that options trading is complex and carries a high level of risk, so it's crucial to understand the underlying concepts and the risks involved before entering into options trading.
Explain the assumptions behind the Black Scholes model?
The Black-Scholes model is a widely used financial model for pricing European options, which are options that can only be exercised at the expiration date. The Black-Scholes model makes several assumptions about the market, the underlying asset, and the option being priced:
No dividends are paid on the underlying asset during the life of the option.
The underlying asset price follows a log-normal distribution, meaning that the natural logarithm of the underlying asset price is normally distributed.
The underlying asset price has constant volatility, meaning that the price movement of the underlying asset is consistent over time.
There are no transaction costs or taxes associated with buying or selling the underlying asset or the option.
The risk-free rate, which is the rate of return on a risk-free investment such as a Treasury bond, is constant and known over the life of the option.
Trading in the underlying asset and the option is continuous and frictionless, meaning that it is possible to buy and sell the underlying asset and the option at any time.
It's important to note that these assumptions may not always hold in real-world markets, and the Black-Scholes model may not always provide an accurate price for an option. Nevertheless, the Black-Scholes model is widely used as a starting point for pricing options and is still considered a useful tool for understanding the behavior of options prices.
Do you think currently gold is overpriced?
The price of gold can fluctuate greatly over time, and there is no definitive answer to whether it is overpriced or underpriced at any given moment.
It is worth noting that some investors view gold as a safe haven investment during periods of economic uncertainty, which can drive up demand and lead to higher prices. On the other hand, when the economy is strong and interest rates are high, demand for gold may decrease, causing prices to fall.
Did you think equities are overpriced?
Equities have been performing quite well lately, with stock prices hitting all-time highs in some markets. However, whether they are overpriced is an opinion that varies depending on who you ask. Some economists argue that equities are too high due to the current low-interest rate environment and a lack of economic growth. Other economists, however, think the current stock prices are justified, with one prominent economist arguing that current stock prices are “not out of line.” Ultimately, whether equities are overpriced or not is a matter of opinion and should be based on an individual’s personal investment goals and risk tolerance.
What's moving the market right now?
The stock market is currently being driven by a variety of factors, including macroeconomic news, earnings reports, and geopolitical developments. In particular, investors are closely watching developments in the U.S.-China trade talks, the Brexit negotiations, and the U.S. government shutdown. Additionally, many investors are speculating on the potential performance of certain stocks and sectors. This speculation is also driving market movement as investors attempt to capitalize on potential gains or losses.
Explain why the commodities Market is volatile?
Commodity markets are generally characterized by high levels of volatility for several reasons:
Supply and demand dynamics: Commodities are raw materials that are subject to fluctuations in supply and demand, which can lead to price volatility. For example, weather conditions can affect the production of crops, causing prices to fluctuate. Changes in demand for commodities, such as shifts in consumer behavior or economic growth, can also impact prices.
Speculation: Commodities are often traded by speculators who buy and sell based on their expectations of future price movements. This speculation can add to price volatility, as speculators may quickly buy or sell large positions, causing prices to rise or fall rapidly.
Political and economic conditions: Commodity prices can be affected by political and economic events, such as wars, natural disasters, or changes in monetary policy. For example, sanctions against a major oil-producing country can cause oil prices to surge, while a recession can lower demand for commodities and cause prices to fall.
Currency fluctuations: Commodity prices are often quoted in U.S. dollars, and changes in the value of the dollar can impact prices. For example, a weakening dollar can increase demand for commodities, causing prices to rise, while a strengthening dollar can lower demand and cause prices to fall.
Limited storage capacity: Some commodities, such as agricultural products, have limited storage capacity, which can cause prices to fluctuate as supply and demand conditions change. For example, a bumper crop can cause prices to fall, while a drought can cause prices to rise.
What's your top stock pick and which stock you recommended to me?
Microsoft Corporation because it is a powerhouse in the tech industry, with a strong reputation for providing high-quality products and services. Microsoft also has a wide range of business opportunities that can provide investors with a good return on investment. In addition, Microsoft has a strong balance sheet and consistent cash flow,
Which stock would you recommend for investment: General Motors or Tesla? Why?
When it comes to investing in stocks, it is important to weigh the risks and rewards of each company. Both General Motors (GM) and Tesla (TSLA) are leading companies in the automotive industry, and both have had their share of ups and downs in recent years.
When it comes to GM, they are a well-established company with a long track record of producing reliable vehicles. GM also has a strong balance sheet and has increased its dividend payments over the last several years. Additionally, the company has a strong focus on innovation and has invested heavily in electric and autonomous vehicles.
Tesla, on the other hand, is a much younger company that has been growing rapidly. The company has a focus on electric cars and has been investing heavily in advanced manufacturing processes and autonomous driving technology. Tesla has also been heavily investing in renewable energy, making them a major player in the global green energy market.
Ultimately, the decision between GM and Tesla comes down to personal preference and risk tolerance. GM may make sense for those who prefer more traditional investments, while Tesla may be more appealing to those looking for a more high-risk, high-reward opportunity.
How would you hedge against the risk of a corporate bond defaulting?
Hedging against the risk of a corporate bond defaulting involves reducing or mitigating the potential losses that may result from the bond's issuer failing to make interest or principal payments. There are several strategies that can be used to hedge against the risk of a corporate bond defaulting:
Diversification: One way to hedge against the risk of a corporate bond defaulting is to diversify your portfolio by investing in a variety of different bonds, rather than putting all of your eggs in one basket. This can help reduce the impact of a default by one issuer, as losses from the defaulted bond may be offset by gains from other bonds in your portfolio.
Credit default swaps: A credit default swap (CDS) is a type of derivative contract that provides insurance against the risk of a bond defaulting. With a CDS, you pay a premium to an issuer, who agrees to pay you if the bond defaults. CDSs can provide a hedge against the risk of a bond defaulting, but they are also complex financial instruments that can be difficult to understand and manage.
Short selling: Another way to hedge against the risk of a corporate bond defaulting is to short sell the bond. Short selling involves borrowing the bond, selling it in the market, and then buying it back later at a lower price in order to profit from the decline in its value. While short selling can provide a hedge against the risk of a bond defaulting, it is a complex strategy that requires a high level of expertise and is subject to significant risks, including the risk of unlimited losses.
Bond insurance: Another option for hedging against the risk of a corporate bond defaulting is to invest in a bond that is insured by a bond insurance company. Bond insurance companies, also known as monoline insurers, guarantee the timely payment of interest and principal on bonds, providing a hedge against the risk of a bond defaulting. However, the creditworthiness of the bond insurance company is important, as a default by the bond insurance company can leave the bond investor with losses.
Why are you better than other candidates who are sitting outside for an interview?
I'm confident that I have the right combination of skills and experience needed to excel in this role. My background gives me an edge in understanding the job requirements and being able to provide solutions. Additionally, I'm a strong communicator with excellent organizational skills, which makes me an ideal candidate for this position. I'm also very passionate about learning and developing new skills, which helps me stay ahead of the competition. Finally, I'm highly motivated and I have a strong work ethic, which allows me to complete tasks efficiently and effectively.
How would you evaluate a client portfolio?
Evaluating a client portfolio involves analyzing the investments within the portfolio and assessing their performance, risk, and suitability for the client's investment goals and risk tolerance. The following steps can be used to evaluate a client portfolio:
Assess portfolio performance: Start by analyzing the portfolio's performance over a specified period of time. This can include evaluating the total return of the portfolio, as well as the return of each individual investment. You can compare the portfolio's performance to a relevant benchmark, such as the S&P 500 or the Barclays Aggregate Bond Index, to assess its relative performance.
Review investment mix: Next, assess the investment mix within the portfolio. This includes analyzing the types of investments (e.g., stocks, bonds, alternative investments), the geographic and sector diversification, and the asset allocation (e.g., how much of the portfolio is invested in equities versus bonds).
Evaluate risk: Evaluate the portfolio's risk by looking at factors such as its volatility, drawdown, and potential for losses. This can help you assess whether the portfolio is aligned with the client's risk tolerance and investment goals.
Rebalance: If necessary, consider rebalancing the portfolio to ensure that it is aligned with the client's investment goals and risk tolerance. Rebalancing may involve selling investments that have outperformed and using the proceeds to purchase underperforming investments.
Consider tax implications: It's important to consider the tax implications of any changes to the portfolio. This may include evaluating the tax consequences of selling investments, as well as the tax implications of investing in certain types of securities or accounts.
Review investment goals and risk tolerance: Finally, review the client's investment goals and risk tolerance to ensure that the portfolio remains aligned with their long-term objectives. This may involve adjusting the investment mix or rebalancing the portfolio to ensure that it continues to meet the client's needs.
Evaluating a client portfolio is an ongoing process that should be reviewed regularly to ensure that the portfolio remains aligned with the client's investment goals and risk tolerance. It's important to consider both the performance of individual investments and the portfolio as a whole when evaluating a client portfolio.
Pitch me a long stock? and pitch a short stock?
Investing in the stock market can be a lucrative way to earn good returns over the long-term. The key is to invest in companies that have strong fundamentals and are in industries that are expected to thrive in the future. One such company is ABC Corporation, a technology firm focused on developing cutting-edge software solutions for businesses. ABC's products have been well-received in the marketplace and the company has experienced consistent growth in revenue, profits, and market share over the past few years. With a team of experienced engineers and a strong management team, ABC looks set to continue its upward trajectory. Investing in ABC over the long-term is likely to yield substantial returns.
Here is a pitch for a short stock:
Investors should be aware of the risks of short selling stocks. Short selling is the practice of selling a stock you do not own with the expectation that the price will fall so you can buy it back later at a lower price and pocket the difference. While shorting a stock can be profitable if done correctly, it can also lead to significant losses if the price of the stock rises unexpectedly. One stock to be wary of is XYZ Corporation, a pharmaceutical company with a history of poor performance and missed earnings estimates. XYZ has seen its stock value drop significantly in recent years as its competitors have surged ahead. Shorting XYZ is likely to result in losses in the short-term.
How would you invest $100k?
When investing, it is important to diversify your portfolio to minimize risk and maximize returns. A simple way to do this is to split your $100,000 across multiple asset classes, such as 50% in stocks and 50% in bonds. Then, you can further diversify your portfolio by investing in different stocks or funds within each asset class.
If you had $10bn to invest in global equities, how would you diversify your portfolio?
If I had $10bn to invest in global equities, I would diversify my portfolio by investing in companies from different industries with varying market caps, revenues, and earnings growth. I would also focus on large-cap stocks with a market capitalization of more than $10 billion. These stocks are a significant part of the U.S. equity market and are often used as core portfolio holdings due to their transparency, stability, and established nature. Furthermore, they generate stable and impactful revenue and earnings, and they are market leaders. Therefore, I would be sure to include large-cap stocks in my portfolio to ensure a solid diversified and actively managed portfolio.
You're given information about a company's stock price over 12 months then how do you determine how risky it is?
To determine the riskiness of a company's stock, you can analyze its historical stock price volatility, which is a measure of how much the stock price has fluctuated over a given period of time. Here are some steps to help you evaluate a company's stock price volatility: