What Do You Do In Fixed Income Besides Bankrupting Your Firm with Toxic Assets?
If you’re reading this, you probably don’t know too much about what you actually do in investment banking and sales & trading beyond a lot of work, Excel, and models and bottles.
Why else would the articles on Mergers & Acquisitions, Restructuring, and UBS LA be among the most popular ones here?
We’re going to fix that today by teaching you all about Trading, what Traders actually do besides gambling and eating a lot of junk food, and specifically what you do in Fixed Income.
This was written by Jerry since he actually worked in trading before, so direct all questions/comments to him.
Types of Trading
“Trading” is a nebulous term, so let’s fix that by discussing the two basic types first: agency trading and prop (proprietary) trading.
There are far more than 2 types of trading, and there’s always overlap between these, but these are the basic categories.
Agency Trading: You simply execute orders for the client – you’re merely an “agent” doing what he/she wants and do not have (much) freedom.
Prop Trading: You are the principal and can make whatever trades you want, using your own money – within your trading mandate and risk limits.
These are the 2 extremes – no choice, and 100% choice. In between is a generic area termed flow trading where there’s some element of agency trading but also some prop trading involved.
Example: in flow trading if the client wants to buy a stock, you can be the seller – and if he wants to sell, you can be the buyer, so you’re effectively acting as the principal there.
Flow traders can also choose to reject orders and generally have more freedom than pure agency traders.
Note: There is a lot of discrepancy and overlap between all these different types of trading, and each firm is set up somewhat differently. These are just the basics.
Equities vs. Fixed Income vs. Everything Else
Flow trading and agency trading refer to whether or not you have clients. The other main category is what you trade – individual companies’ stocks? Bonds? Currencies? Derivatives of those?
There are lots of different groups within Sales & Trading at a bank, but today we’re going to focus on Fixed Income – anything that involves debt.
“Fixed” Income?
Originally, Fixed Income meant that whatever you traded had a “fixed” income stream – think bonds, loans, or anything else based on bonds or loans (derivatives). If it paid a certain interest rate and was redeemed at the end of a specified period, it was fixed income.
But once clever bankers started creating collateralized debt obligations (CDOs) and other fancy instruments that no one really understood, the term “Fixed Income” lost its meaning – all of those were placed into this category, even though nothing about them was “fixed” other than the potential to destroy the economy.
Prices of these securities are affected mostly by interest rates set by the Fed and by the credit quality of the corporate and government issuers.
FX and commodities traders work closely with those in Fixed Income and they are often classified in the same group, even though nothing about exchange rates or commodity prices is “fixed.”
Types of Fixed Income Trading
Groups are usually divided by the types of instruments you trade – whether they’re relatively “safe” government bonds, more risky corporate bonds, or even more exotic securities. Of course, occasionally traders will venture a bit out of their own turf to trade other instruments if it is allowed at their firm.
Government Bonds
This includes US government debt (notes, bills, and bonds, known as US Treasuries), Euro-denominated German debt, and yen-denominated Japanese government bonds. There are also others like inflation-protected bonds, repurchase agreements, and bond futures.
Usually you only trade the government debt of one country, and if your team is big enough you might specialize in a certain area like 5-10 year bonds.
Although government bonds are “safer” than other fixed income securities, the job itself can be stressful because these markets are constantly trading – even in off-market hours. And that means that you need to follow these markets, even when you’re out of the office.
Since there’s so much liquidity, you can take huge positions without too much trouble (unlike, say, buying 20% of a company’s stock where you would have to disclose it). Traders who bet on the US lowering interest rates in 2008 made small fortunes by betting big.
The Work Itself
You spend most of your time as a junior trader predicting changes in the shape of the risk-free interest rate curve, because that is the #1 factor that impacts government bond prices.
There’s not too much valuation work; usually you just do simple DCF calculations in Excel or on Bloomberg to get prices – it’s not like investment banking or private equity where you use many different methodologies to value companies. Your main concern is DV01, or how much you make or lose for every 1 basis point move in interest rates.
If you like macroeconomics rather than analyzing individual companies, government bond trading may be good for you.
Corporate Bonds and Credit Default Swaps
Corporate bonds are just like government bonds, except companies issue them so there’s always the chance of default – and the yield is higher to compensate for that.
If you’re working with smaller or non-US/European companies, you need to watch the news constantly to stay on top of things – but compared to government bond trading there’s less emphasis on macroeconomic happenings.
Credit Default Swaps (CDS), meanwhile, are like insurance on bonds: they’re derivatives that let you separate the risk of default from the risk of interest rates falling, so you can effectively “insure” yourself against losing your investment.
Most banks combine these two groups, since the value of corporate bonds and credit default swaps are closely related.
The Work Itself
You spend most of your time analyzing the credit profiles of different entities and weighing the bond yield against the risk of default – so you follow both company-specific and macroeconomic news.
You analyze credit profiles by looking at the financial statements of a company, the sector as a whole, and companies’ credit ratings.
Some say the work is more “interesting” than government bond trading because you’re working with different companies and because there are more trade possibilities – buying one company’s stock while shorting competitors’, for example.
These days it would be tough to get a job in this division due to the financial crisis and the sheer number of credit teams that have been laid off.
CDS may become more “standardized” on an exchange, which might improve liquidity and transparency – so opportunities there may return in a few years.
Structured Credit Trading
Of the different Fixed Income groups here, Structured Credit Trading is the most different because they don’t spend all their time checking the market and keeping up to date on the news.
Instead, they price and package complex financial products in Excel and then sell them to investors.
They don’t make trades every day, but when a trade does happen it could be for an amount of hundreds of millions or billions of dollars – compared to the other two groups above, where the size of individual trades is typically much smaller.
Although Structured Credit Trading is the most “quantitative” of entry-level Fixed Income jobs, you don’t need a Math Ph.D. or anything because you don’t actually create the tools used to price complex securities – that’s for the Ph.D.-level quants. You just need to understand the tools and how to use them to create your own products.
You don’t spend much time looking at individual companies, since most of these “financial products” involve hundreds of companies.
The Work Itself
See above. You spend a lot of time in big Excel spreadsheets figuring out how to price different securities. This is more quantitative than what you do in investment banking or private equity – in those fields, you mostly just do addition and subtraction, and sometimes multiplication or division if it’s super-advanced.
Right now it would be very difficult to actually get into Structured Credit Trading because of the financial crisis – most groups have been hit hard, just like everything else related to credit.
However, in the long-term there will still be possibilities here, so it’s something to consider if you’re still a few years away from looking for internships or jobs.
Exit Opportunities
So now you might be wondering, “Ok, so it sounds like a lot of this is repetitive and like you do a lot of grunt work as a junior trader – surely, the exit opportunities must be better, right?”
If you go into investment banking, you could go into a wide range of different fields afterward – private equity, hedge funds, venture capital, corporate development, or something completely different.
In trading, though, you only have 2 options: stay in trading (a similar “up or out” structure exists as in banking), or move to a hedge fund / prop trading firm.
That’s because the skill set you develop is so specialized – valuing companies and performing due diligence is useful in a lot of different fields, but knowing how to trade CDOs would be completely useless at a startup or venture capital firm.
Typically, as you advance you become even more specialized – so if you start out trading corporate bonds for European telecom companies, chances are you will go to a hedge fund that also trades corporate bonds for European telecom companies. You get pigeonholed very quickly as you move to the buy-side, which is one reason I chose to leave and start my own firm instead.
That’s not to say that you can’t move into other fields in finance if you start out in trading – but it is very rare to see a full-time trader move into, say, private equity or consulting following several years on the trading desk.
Up Next
Equity Trading, Day(s) in the Life of a Trader, and more…
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Tags: agency trading, Fixed Income, flow trading, investment banking, prop trading, S&T, sales and trading exit opportunities, trader, understanding investment banking
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Thanks for a good post! Is there any chance that you can do a similar for asset management? Until then do you have any tips for places like your great blog to find useful info about that field?
Unfortunately there is almost no good information online on finance / asset management specifically… I haven’t seen other informative websites on the topic.
When I started this site, there was literally nothing else about how to get into i-banking online.
Great Post Jerry! You should write more articles about this topic.
“That’s because the skill set you develop is so specialized – valuing companies and performing due diligence is useful in a lot of different fields, but knowing how to trade CDOs would be completely useless at a startup or venture capital firm.”
This comment is misleading considering corporate bond traders, especially on desks that focus on fundamentals, do exactly the activities you mention as being “useful” – analyzing cap structure, likelihood of cash flows, borrower cause, sources of repayment, etc. which are directly relevant to the venture capital, private equity, and corporate development roles you referenced.
If anything, the corporate bond roles have MORE RELEVANT skill sets than investment banking because financial fundamentals are the entire focus of the position, versus the vast amount of pitch work included in an investment banking analyst’s job.
You could this way distinguish between momentum/derivatives traders and corporate securities “traders” (though it is probably more accurate to call them asset/portfolio managers) so as not to misinform people considering both of these roles.
I see what you’re saying, but empirically there are still VERY, VERY few traders who go into anything besides more trading – even if the skill set is relevant, the perception is that it’s not.
Also, a large part of what PE and VC firms do is review CIMs/OMs sent by bankers and then create their own models and valuations of companies based on that… which traders don’t really do.
So there is some merit to what you’re saying, but when all is said and done, 99% of traders stay in trading.
So many people get into trading every year and very few are really successful. Where do unsuccessful traders go? I guess all cant go to hedge fund.
Usually they leave the industry and move onto something else if they’re unsuccessful… hard to do anything in trading if you can’t make money.
“But once clever bankers started creating collateralized debt obligations (CDOs) and other fancy instruments that no one really understood, the term “Fixed Income” lost its meaning – all of those were placed into this category, even though nothing about them was “fixed” other than the potential to destroy the economy.”
Really like this passage
. Anyway great post. Definetly gives a good overview of Trading. Good Job Jerry.
What about structured products/MBS trading? This is (was) one of the largest facets of fixed income trading at banks.
Well Structured Products are covered a bit above under Structured Credit Trading. Will see if that can be featured more in the future
A bit of a tangent question, but where do you come down on letters of recomendation? Should one ask for them from internships / use them when applying?
In general they are not necessary if you’ve just had an internship and are interviewing around… no one really looks at them. They are more helpful for buy-side but you don’t really need a letter, just word from your MD is enough. Letters are only required when applying to business school.
Is there a large difference in compensation between the different types of traders?
I would assume entry level traders make similar salaries across the board (though I’ve heard of unique cases of some traders making big money straight out of college), but what about earnings potential as one moves up in the trading world? Does it vary greatly depending upon the kind of trading one does?
P.S. Unbelievable site by the way!
It varies mostly by your individual / group performance as you move up – and yes, variances could be enormous depending on what you’re trading and how you’ve done.
At a bank as an entry-level trader you’re never going to make much, but there are some places on the buy-side where you can make a lot if they pay you a % of your P&L… but they never do that at a bank when you first start.
Off topic question. What are your feelings on Equity/Debt Capital Markets? I have heard so many conflicting things about it. Is it a nice alternative to IB connecting s&t to IB, is it simply a division within IB, or is it even something you should never get into?
Thanks, love the site.
It’s a division of IB and has almost nothing to do with S&T – you work with clients and raise money for them, you don’t trade securities.
It’s just a different alternative to M&A or other groups in banking… not necessarily better or worse, just different.
Great post. I’ve always wondered specifically what S&T people does on the job.
Two small questions: would doing a major in a more quantitative discipline like applied math in economics or operations research helps? and I’m currently holding a consulting internship at a brand name (non MBB though) consulting firm. would this be seen as a turn-off for S&T or can I spin it in some way that it benefits me? I’m still a freshman turning into a sophomore in any case. Thanks!
1) Having a quantitative major helps with S&T, but you don’t really need it – just need to show that you are capable technically and get through all the probability questions they’ll give you.
2) If it’s just an internship and you’re that young, you can always spin it so I don’t think it will hurt you at all.
M&I – thanks for the response – still a great post, gotta say I am a big fan of this blog.
What’s the typical compensation like for entry level S&T? What about Mid-level? Is it tough for recent grads to break into S&T? I met a few traders while in NY and they really loved what they did. They described their work as Wealth Management, but on crack (meaning with a much larger investment amount — typically on the institutional end). What’s a typical week like for a person in Sales & Trading?
Entry is about the same as for IBD. Mid-level it varies widely depending on how well your group does / how your own P&L looks… you might make $0, or you might make millions. It’s far more variable than IBD.
Yes, it’s difficult to get into S&T because there are fewer positions to begin with and the economy hasn’t helped things – still possible, but definitely not any easier than getting into banking these days.
Typical week: that’s quite difficult to answer in 1 sentence, but that will be covered in the future. The short answer is you have a few hours of free time at night on weekdays and have weekends free.
Thanks for the response! I’m addicted to your site…..Same as IBD — so about 50-60K Base with a nice bonus?? Where do you suggest looking to break into S&T? Corporate web-sites or recruiters?
yes assuming you’re at a large bank. To break in, start picking up the phone, building relationships, and calling people – corporate web sites / recruiters are 100% useless.
Someone earlier mentioned Debt/Equity Capital Markets and you said it was just another division of IB. Does this mean that analysts in DCM/ECM have a good chance of moving into PE/HF or are their exit opportunities not as great?
ECM it’s harder to PE because you don’t do much technical work. DCM people definitely move to PE because they work with debt a lot (or at least, they used to). ECM it’s more common to go to hedge funds or other opportunities that don’t require as much modeling.
Where do you suggest looking for fall internships in trading? I graduate next year, I’d like some relevant experience when it comes to trading, just to have something on my resume when the fall comes.
You mentioned corp web sites being useless…does that mean that when it comes down to it, applying online for FT in S&T is completely useless?
Yes, online is typically useless. You either go through on-campus recruiting at a top school, or if you’re not at a top school you cold-call and network until you get interviews. There’s a list of regional boutiques on WallStreetOasis and I would start there in terms of where to look and where to cold-call. Anything submitted through a website is ignored because the barriers to entry are too low and they get thousands of people like that – you need to get on the phone and start talking to people.
Does income figures for Institutional Sales vary? Also what are your general thoughts on jobs like Institutional Sales at a pretty solid boutique bank? I am scared of the fact that alot of it can be commission based, but I do hear that you can make a ton — is that true for an entry-level Institutional Salesman?
Not too sure on Institutional Sales but the bonus probably varies a lot.
At the entry-level I think the earnings potential is probably a lot lower – anything commission-based usually limits how much you can make if you’re just starting.
Heyy,
What would be the difference in Pay and Hours between Investment banking and Marketing (Sales, Trading and Research) at JP Morgan? Marketing is supposedly a key area of the deal making process, whereby you actaully create the deal… but do you think the pay and hours reflect this?
I’m not sure I understand what you mean – those are completely different areas, and investment banking doesn’t work with anyone in Sales/Trading/Research.
In general pay is about the same at the entry level, but research may be a bit less… the hours are significantly greater in banking though.
Sorry, That was a terrible question: i’ll define it further!
Im interested in applying for JP Morgan S&T, and in perticular the marketing role within that, but im concearned that the long-term career prospects would not be as good as banking. So would the compensation be less for say a M&A Vice President than a Marketer at the same level?
The difference is that S&T generally gives you less flexibility… I’m not sure 100% on compensation for that role specifically, but if you do banking then you generally have more options in the future. Compensation in S&T at the VP level and compensation in M&A at the VP level may not be that much different, but someone in M&A could more easily move into other fields.
Hey, i got a pretty laymen question abt sales. I saw many posts and articles covering traders’ life online, but very few on sales. Why is that? And what do sales do on a daily basis, i mean, what do they sell exactly, research ideas, trade ideas? Possible exit option for sales?
Thanks! BTW, this is one of the most informative sites on IB i’ve ever seen:)
Its just because Sales is less common and seen as less “sexy” than trading. People in sales… sell securities to institutions and other investors and help win new clients for the bank.
Great post! … but I’d like to ask some further questions since I don’t know when this article was written and under what market conditions.
In such an economic downturn and amid the fierce competition for trading positions, would it be still true that companies don’t especially look for quantitative backgrounds such as engineering, math or computer science?
Also, I heard that interview problems are getting harder and harder for most internships and full-time offers, and having taken a couple of probability classes won’t save you. My friends who took the 1st and 2nd round on-campus interviews last year told me that recruiters asked for option pricings and some more difficult questions. (they might have exaggerated a little, but still..)
This was written in summer 2009. It still helps to have a quantitative background for trading, though you don’t necessarily “need” it to get in.
Interviews have become more technical, but I really doubt you would get Calculus-level questions in interviews… you just don’t use that kind of math in trading unless you’re a Ph.D.-level quant.
I’m interested in a career in one of the other sectors within investment banks (i.e. asset management, technology etc… other than investment banking itself) and wondered if you had any information on the role, and average salary & bonuses?
I don’t have exact numbers on those, but in general they will pay less than investment banking / sales & trading. What you do varies a lot by which specific role you want… running more articles on this soon.
I have heard that the PhD quants are seen as inferior to the rest of the front office (sales/trading/structuring) and end up working longer hours for lower pay, albeit the job has slightly better stability than the rest of the FO – is this true, and if so, why do such highly qualified people want the quant job?
Not sure on that one, though I wouldn’t be surprised about lower pay given that they aren’t “directly” responsible for income / returns. Highly qualified people go after it because it’s a much better alternative than sitting in a lab or being in academia forever.
I guess M&I, why would those people not go directly to S&T/Structuring then?
It can be difficult to get into those if you have a Ph.D – might be over-qualified
It really is amazing that someone can be over-qualified for a higher paying, more prestigious job… It seems very counter-intuitive to me. What about getting an MBA – do you think that can wash the Ph.D. off the books or is it a permananet blemish on the resume?
An MBA would help. The problem with a Ph.D. is that it signals you might be too “academic” for finance, which has little to do with theory and is all about how good a talker you are and how much money you can make.
Any chance of having anything on the “Sales” aspect of Sales and Trading? There’s lot’s all over the web about Trading (the busy rooms and shouting make for far more interesting movies) but nothing about Sales.
What do Sales people do on a day to day basis, pay(?), exit oportunities, lifestyle…
I’ll see what we can add on this topic – not as many people do Sales so there’s not as much information on it.
Hi Brian,
What are your thoughts on agency trading in a place like Bank of NY Mellon in terms of pay/exit opportunities. Will I have a shot at the biggest hedge funds or will that be out of my league with BNY. Also, if I am doing a summer internship in agency trading at BNY, is it possible to leverage that into full time trading at a BB?
Thanks. Love your site!
The problem is that HFs are looking more for prop traders from large banks, or from other HFs. It’s not a bad opportunity but it will be difficult to get into large hedge funds. Moving to a bulge bracket trading job would be easier.
Hey, are the tactics of getting into S&T different than IBD or would you recommend the same networking techniques etc as for banking? I’m coming from a semi-target with little to no S&T recruiting, but some IBD, so I network heavily.
I’ve heard its possible to make the switch from IBD to S&T, but not the other way around. Would having this dual background be very attractive if I wanted to eventually move to a HF? More so than having just either/or?
For being an undergrad, I have, and will further build, my finance skill set that relates to IBD, i.e. I will have some decent modeling experience before I graduate, and have always been very strong in math. Will this help me at all getting into S&T, or is there any other skill set I can pick up that would give me a similar leg up as modeling & val would for IBD? I play plenty of poker and invest my own money.
Say I went from IBD to S&T at a BB and worked at both for two years. Would I be able to get back into IBD or PE because I had the analyst experience, or would it be overshadowed by the more recent S&T experience and make it seem like im undecided and bad when it comes to commitment?
I know thats a lot to ask, but thanks, you’ve been a huge help to me.
http://www.mergersandinquisitions.com/sales-trading-vs-investment-banking-part-1-recruiting/