By Chron Contributor Updated February 16, 2021
In the business world, it's frequently necessary to attract large numbers of investors willing to risk capital on a company and its proposed venture. Generally, investors sink money into companies by purchasing bonds and other instruments, in expectation of reaping substantial profits. Corporations and even governments raise capital by offering stocks, bonds or other security instruments, and they frequently use underwriters to do this. Take a look at what a job underwriting securities involves and learn more about the underwriting process.
Securities Underwriting Meaning
A securities underwriter, or investment bank, is the entity that helps a corporation raise money from investors. Most companies just aren't set up to manage the sale and then disbursal of millions of their investment securities. Selling stocks, bonds or other securities is also an expensive proposition, and companies frequently look for ways to reduce costs as well as their risks when doing so.
According to BNY Melon, a securities underwriter relieves a client corporation of much of the risk attached to selling its securities. This type of professional uses their knowledge of government guidelines and the company's risk policies during the underwriting process to determine which transactions the company should proceed with and how these transactions will affect the company's capital structure.
Understanding Securities Underwriting Spread
Investment banks such as Goldman Sachs are primarily in the business of securities underwriting. The Corporate Financial Institute explains that those employed in investment banking underwriting positions work hard to sell newly issued stocks or bonds to large numbers of investors. They usually purchase their clients' securities at a discount and then resell all or a portion of them to investors at higher prices. When the worker's underwriting securities, the difference between what a securities underwriter pays for its client's newly issued securities and the higher price investors later pay is called the underwriting spread, or its profit.
Reducing the Underwriting Risk
By agreeing to accept a set purchase price from the underwriter for its newly issued securities, a corporation reduces the risks attached to offering them for sale. Securities underwriters, however, don't underwrite securities without reasonably assuring themselves of making profits. Securities underwriters always carefully analyze the companies and securities they're contemplating underwriting before they purchase those securities. Despite careful analysis, securities underwriters also risk having to hold on to underwritten securities they can't sell.
Making Firm Commitment Offerings
When investment banks buy clients' securities to profit off underwriting spreads, they've made what's called a firm commitment offering. Most reputable investment banks underwrite securities on a firm commitment basis, where securities underwriters agree to hold any underwritten client shares they can't sell rather than discounting and then dumping them on the markets. By not dumping a client's underwritten shares on to the markets, a securities underwriter helps keep its client's share prices from dropping in response.
FAQs
An underwriter is an institutional financial organization that assesses and assumes another party's risk for a fee. Underwriters operate in the context of (1) securities offerings and (2) insurance. (1) In the context of securities offerings, an underwriter markets and sells an issuer's securities.
What is the role of a securities underwriter? ›
Securities Underwriting
Underwriting ensures that the company's IPO will raise the capital needed and provides the underwriters with a premium or profit for their service. Investors benefit from the vetting process that underwriting provides and its ability to make an informed investment decision.
How do you become a securities underwriter? ›
Becoming an underwriter typically involves earning a bachelor's degree, often in a field such as business or economics, obtaining an entry-level role to gain experience, completing on-the-job training and earning specialized certifications based on career goals.
What is the benefit to a company from a securities underwriter? ›
They help companies to reduce the risk associated with an IPO. They study the market and advise companies on where to set their IPO share price. They generate demand for a company's securities by giving them a strong credit rating.
What is the difference between a stock broker and an underwriter? ›
Brokering involves executing trades in the market on behalf of customers, or buying and selling securities. Underwriting involves bringing new securities to market.
Is being an underwriter hard? ›
The role of an Underwriter can be challenging due to the need for a strong foundation in financial analysis, legal knowledge, and an understanding of the industry in which they work.
Who can underwrite securities? ›
Investment banks often act as underwriters for new securities as well as their agents. In fact, underwriting is often a significant portion of certain financial institutions' revenue. Underwriters might be motivated to overlook the risks associated with a security in their eagerness to bring the new stock to market.
What is the highest paid underwriter? ›
High Paying Insurance Underwriter Jobs
- Chief Underwriter. Salary range: $132,500-$257,000 per year. ...
- Underwriting Director. Salary range: $100,000-$168,500 per year. ...
- Property Underwriter. ...
- Casualty Underwriter. ...
- Underwriting Manager. ...
- Production Underwriter. ...
- Underwriting Consultant. ...
- Senior Underwriter.
Top-performing senior insurance underwriters can earn up to $182,500 a year. Given that the minimum wage is still pegged at $7.25 an hour, insurance underwriters can and usually do make a lot of money.
Can you be an underwriter without a degree? ›
While a college degree in finance, business, or a related field can be advantageous for an Underwriter, it's not strictly required.
Underwriting income is the difference between premiums collected on insurance policies by the insurer and expenses incurred and claims paid out. Huge claims and disproportionate expenses may result in an underwriting loss, rather than income, for the insurer.
How do underwriters make money? ›
An underwriter is any party, usually a member of a financial organization, that evaluates and assumes another party's risk in mortgages, insurance, loans, or investments for a fee, usually in the form of a commission, premium, spread, or interest.
What are the disadvantages of underwriting? ›
Traditional underwriting disadvantages:
Limited access to customer information means tracking down data in disparate systems and contacting customers for information or additional phone interviews. Time-consuming and resource-intensive. Prone to human error and bias.
Do brokers make more than underwriters? ›
The differences between insurance underwriters and brokers can be seen in a few details. Each job has different responsibilities and duties. Additionally, a broker has an average salary of $124,861, which is higher than the $64,163 average annual salary of an insurance underwriter.
Is an underwriter a financial advisor? ›
An underwriter is not a financial advisor.
Who becomes an underwriter? ›
You require a bachelor's degree in a relevant field to gain the knowledge necessary for becoming an underwriter. A degree in computer science and statistics prepares you for the role. However, consider a graduate degree in business administration or management.
What is the main role of an underwriter? ›
An underwriter is a key member of the financial industry who plays a critical role in assessing and evaluating risk. They work for various financial organisations, including mortgage, insurance, loan, or investment companies, and their primary task is to assume the risk of another party for a fee.
What is the most important function of an underwriter? ›
One of the major roles of an underwriter is to trade debt securities. This normally involves buying and selling debt financial securities to the public. One of the major skills of an underwriter is the ability to assess the risk of an organization failing to pay its debt obligation.
What is the role of the underwriter in securitization? ›
The primary job of the underwriter is to analyze investor demand and design the structure of the security tranches accordingly. Consistent with traditional, negotiated cash-offer practices, underwriters of asset-backed bonds would buy at a discount a specified amount of the offer before reselling to investors.
What is the difference between an investment banker and an underwriter? ›
Underwriting Deals
This means taking on much of the risk by buying the shares outright from the issuers and then selling them to the public or institutional buyers. Investment bankers sell the shares at a markup to generate profit for their employers.
