Prime Brokerage

Updated on April 12, 2024
Article byWallstreetmojo Team
Reviewed byDheeraj Vaidya, CFA, FRM

What Is Prime Brokerage?

Prime Brokerage refers to a suite of services financial organizations like investment banks provide to hedge funds and other big investment clients. It assists the latter lend money or securities to engage in netting and attain an absolute return. Nowadays, clients also prefer holding a crypto prime brokerage account because it provides advanced market data and tools.

What Is Prime Brokerage

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Notably, famous investment banks, including JPMorgan Chase & Co, Morgan Stanley, and Goldman Sachs Group Inc, are the most significant market players in this industry. Furthermore, traditional and crypto prime brokerage services include cash management, securities lending, custodian services, and settlement services. 

Key Takeaways

  • The prime brokerage meaning implicates a bundle of services big investment companies offer to their hedge-fund clientele. Simply put, it helps big clients loan money or securities during complicated transactions.
  • Its prominent market players include Goldman Sachs Inc, JPMorgan Chase & Co, and Morgan Stanley. 
  • The prime broker offers cash settlement, securities lending, settlement services, custodian services, and additional administrative services.     
  • Please note that synthetic financing for hedge funds incorporates making an account as suggested by the hedge fund manager.

Prime Brokerage Explained

The prime brokerage business, both traditional and crypto funding, attracts several investment banks since it is a significant revenue source and guarantees assured results. Furthermore, it has evolved from the continual increment of hedge fund operations. This assists hedge funds in enhancing their leverage while making big trades.  

As per the meaning, the prime brokerage account helps create unique derivative products, including collateralized debt obligationsCollateralized Debt ObligationsCollateralized debt obligation (CDO) refers to a finance product offered by the banks to the institutional investors. Such tranches have a complex structure and derive their value from the various underlying assets like loans, mortgages and corporate bonds, which also serve as collaterals in case of default.read more and default swaps. Prime brokers know how to calculate a company’s net worth as it only assists clients with sufficient funds. 

Moreover, they can facilitate trades between the client and the counterpartyCounterpartyA counterparty in a financial transaction is the person or entity on the other side of the agreement. Any trade must have at least two parties who serve as counterparties for each other. For every buyer in a purchasing deal, there must be a seller. And for every seller, there must be a buyer willing to purchase.read more for fixed-income investment and in securities like equity. 

It serves as a vital financial intermediaryFinancial IntermediaryA financial intermediary refers to a third-party, forming environment for conducting financial transactions between different parties.read more through custodian, settlement, cash management, and other services to hedge funds and big traders. Moreover, its units may make good profits for organizations due to their ability to make money through various methods. 

Prime brokers charge a base rate for their services and acquire a large amount from the spread in the lending rates between the borrowing and loaning operations. Also, these types of accounts can borrow securities from the hedge fundHedge FundA hedge fund is an aggressively invested portfolio made through pooling of various investors and institutional investor’s fund. It supports various assets providing high returns in exchange for higher risk through multiple risk management and hedging techniques.read more for loaning them to clients interested in the short sellShort SellShort Selling is a trading strategy designed to make quick gains by speculating on the falling prices of financial security. It is done by borrowing the security from a broker and selling it in the market and thereafter repurchasing the security once the prices have fallen.read more process.

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Video Explanations of Prime Brokerage

 

Prime Brokerage Services 

To clarify, a prime broker offers the following services,

Prime brokerage services (broker)

#1 – Cash Management

It is the procedure to accumulate and handle the cash flows of organizations and individuals. Therefore, efficient cash management is essential to the company and its soundness. Moreover, a crypto prime brokerage account assists institutional investors and hedge funds through greater availability of liquidity and assets. 

#2 – Securities Lending

This involves all kinds of available securities in the financial industry. Precisely, security lent to the mortgagor implicates the transferral of ownership and title. Accordingly, the broker charges a loan fee, including the borrowing rates and any interest specified by the contract. 

#3 – Settlement Services

Please note that it includes facilitating the wsm-tooltip header=”Clearing Accounts” description=”A clearing account or wash account is a temporary account in which the funds are kept to be smoothly transferred to the required account when the transfer cannot be done directly. It helps the clients to set aside a sum of money when the transactions are in process.” url=”https://www.wallstreetmojo.com/clearing-account/”]clearing accounts[/wsm-tooltip] and settlements for hedge funds and other clients. Clearing denotes confirming the transaction settlement with a timely transfer of shares and funds to both sides. 

#4 – Custody Services

To clarify, custodians are financial institutionsFinancial InstitutionsFinancial institutions refer to those organizations which provide business services and products related to financial or monetary transactions to their clients. Some of these are banks, NBFCs, investment companies, brokerage firms, insurance companies and trust corporations. read more holding their clients’ securities like bondsBondsBonds refer to the debt instruments issued by governments or corporations to acquire investors’ funds for a certain period.read more and optionsOptionsOptions are financial contracts which allow the buyer a right, but not an obligation to execute the contract. The right is to buy or sell an asset on a specific date at a specific price which is predetermined at the contract date.read more for protection. It generally holds high-value securities in both electronic and physical forms. 

It provides additional services, such as administrative benefits to hedge funds for regularly reconciling their books and striking a daily (Net Asset ValueNet Asset ValueNet Asset Value is calculated by subtracting the total value of the entity's liabilities from the total value of its assets and dividing the result by the total number of outstanding shares.read more). Prime brokers can also produce great products, including the CDS (Credit Default Swaps)CDS (Credit Default Swaps)A credit default swap is a financial transaction between a third party and a buyer. where the seller guarantees to compensate the buyer if the acquired asset defaults for any reason.read more on the unknown wsm-tooltip header=”Mortgage Bonds” description=”A mortgage bond refers to a debt instrument backed by mortgaged assets such as equipment or real estate such as property, building, etc. It is a secured bond since the bondholders can recover their funds by selling the underlying collateral.” url=”https://www.wallstreetmojo.com/mortgage-bond/”]mortgage bond[/wsm-tooltip. 

In addition, the brokers may transform toxic assets from the balance sheetIts Balance SheetA balance sheet is one of the financial statements of a company that presents the shareholders' equity, liabilities, and assets of the company at a specific point in time. It is based on the accounting equation that states that the sum of the total liabilities and the owner's capital equals the total assets of the company.read more into securities through securitization, which can now be traded. 

Examples

Here are a few examples to better understand the prime brokerage meaning. 

Example #1

Say, Angelina owns an international clothing chain ABC co. with $200 million as its total revenue. So, it conducts huge investment transactions without smart fund allocation and investment expertise. Now, Angelina connects with a broker, Brad, to understand the meaning of and open a prime brokerage account (traditional and excluding crypto funding). 

As her prime broker, Brad offers cash management, securities lending, risk management, etc. Furthermore, he can hold Angelina’s securities, like bonds, for safekeeping and provide settlement services for timely funds transfer. 

Example #2

Credit Suisse Group AG’s departure from the prime brokerage market has started a battle for its 1800 clients. Please note that it had a deal to refer its clientele to BNP Paribas SA. 

However, the three largest Global banks, Goldman Sachs Group Inc, JPMorgan Chase & Co, and Morgan Stanley, have expanded their lead during the first half of 2022. To clarify, BNP recruited 20 employees from the Swiss Bank’s prime brokerage. 

Synthetic Prime Brokerage 

It refers to hedge funds obtaining leverage with merchant banks as counterparties. It involves establishing an account advised by the hedge fund manager. Clients prefer browsing through the crypto and synthetic prime brokerage list due to the ability of such accounts to customize and extensive market access. 

Precisely put, it is considered more effective than conventional financing from the funding perspective. Synthetic financing for hedge funds permits banks to decrease liquidity rates and capital through hedging and netting the derivatives exposures against the trading book. 

Frequently Asked Questions (FAQs)

What Is A Prime Brokerage Agreement?

A prime brokerage agreement is a deal between a large client and the investment bank, including the hedge fund. Simply put, it helps banks offer special services like cash management and settlement services to their clients with complex transactions.

Regarding the prime brokerage list, the most prominent market players with this type of account are Goldman Sachs Group Inc, JPMorgan Chase & Co, and Morgan Stanley.

What Are Prime Brokerage Services?

The list of Prime brokerage services includes securities lending, cash management, settlement services, and custodian services. In addition, it offers administrative and analytical services. Prime brokers may also convert toxic assets into securities in the balance sheet through the securitization process.

How Does Prime Brokerage Make Money?

Prime brokerage makes money by levying a basic fee like a spread or premium on the bank loan to facilitate the transaction. Precisely put, it earns money via lending rates and commissions on transactions.

This has been a guide to what is Prime Brokerage and its meaning. Here, we explain its services, examples, and synthetic prime brokerage. You can learn more from the following articles –