Among investment banking offerings, debt market activity often pales in comparison to mergers and acquisitions (M&A) activity. Although M&A activity focuses on long-term relationships, a DCM team generates a substantial volume of smaller transactions rather than big-ticket deals.
What is a DCM?
A DCM helps both governments and companies raise funds by selling debt securities. Debt securities include government bonds, CDs and corporate bonds.
DCM teams are also engaged in advising companies, sovereigns, agencies and supranationals looking to raise debt.
Raising “debt” refers to borrowing a certain amount of funds and paying interest on the borrowed funds. This differs from raising equity funding, where the entity has to part with a certain percentage of its stake to raise capital. It is cheaper to raise funds by issuing debt securities than by offering equity.
The global debt market was worth around USD1in 2020, according to the International Capital Market Association. Sovereign, supranational and agency (SSA) bonds made up 68% of this, and corporate bonds the remaining 32%.
Why invest in DCM?
DCM provide flexibility to investors and creditors. A look at some of the types of bonds offered would provide a broader picture of the methods of investment.
Classification of bonds
The DCM team is responsible for selling the different kinds of bonds available in the market.
A bond comes with a number of security measures, and different bonds have different risk-return features.
The following are some bonds most commonly handled by DCM teams:
- Investment-grade bonds
These carry lower interest rates and lower risk than other bonds. This type of bond is used to raise capital for business operations.
- High-yield bonds
These bonds provide high returns but come with high risks.
- Government bonds
All countries issue bonds to raise funds for their operations. In the US, these are known as Treasuries, issued by the Department of the Treasury. Other countries have their own departments responsible for issuing such bonds. Returns depend on market conditions. As these bonds are officially backed by a government, they are usually safe.
- Emerging-market bonds
These refer to bonds issued by governments of developing countries. Due to political and financial pressure, government credit ratings are generally lower and returns, therefore, are slightly higher than those of developed-market bonds.
- Municipal bonds
The US has one of the largest markets for these bonds issued mainly by counties, districts, and cities.
Significance of a DCM team in an investment banking firm
The DCM team is primarily responsible for advising clients on raising debt for refinancing, acquisition or restructuring.
The team also helps clients with technical know-how to convince investors or creditors.
A DCM investment banking firm works with the client’s risk and treasury departments. The team could originate debt deals or be involved in syndication, liaising between the deal originators and the secondary market. A DCM team is, therefore, critical for an investment bank, as they can make or break deals. Correctly brokered deals generate significant and regular income for an investment bank.
The team deals with bonds issued with longer repayment periods. Once these bonds mature, the team helps the client raise new funds.
DCM is seeing an increase in issuances amid the pandemic. Both corporates and sovereigns are looking to access cheaper sources of funds, and they may be attracted to debt capital for longer. Considering the possibility that investment banks could have robust deal pipelines, it would be prudent for them to consider working with external partners than can provide bespoke support to their DCM teams.