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Highlights
- Investors can broadly be categorised as institutional investors or retail investors.
- Retail investors generally participate in the market at an individual level with help from experts and investment advisors.
- Institutional investors are typically large organisations that make investments using pooled sums of money given by several individuals.
Understanding the stock market requires more than just surface-level knowledge about stock performance and analysis tools. The market is influenced by a range of factors - one such factor being the speculative nature of investors in the market.
However, not all investors enter the market to speculate. Some investors like to make stable gains on their investment by putting their money in renowned dividend-paying stocks offering steady returns, while others choose to invest in high-risk penny shares with great return potential. And the varying nature of market players greatly impacts the way the market reacts to different scenarios.
Notably, investors can be broadly categorised into two types - retail and institutional. Each type of investor must take on some amount of risk to obtain the desired returns. However, one type of investor may not be better than the other in absolute terms. In fact, both types of investors make investments through a method that is suitable to them, without either being superior.
Let us take a closer look at how retail and institutional investors are different from each other.
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Retail investors
If you are going solo in the stock market and frequently turn to your adviser or even the internet for investment assistance, then you are probably a retail investor. Generally, those investors who purchase securities individually through a third party such as a brokerage firm, investment manager or an expert are retail investors.
Retail investors may enter the market for the purpose of obtaining profitable returns that they can keep for their personal use. These investors function on a personal level and are motivated by the need to build personal wealth. Such investors often depend on their personal knowledge of the market to make decisions, which may also be influenced by experts.
Since retail investors participate individually, they often start with a lesser purchasing power than other big party investors. Most retail investors fund their investments with their personal incomes, or through investment returns from other sources.
Institutional investors
If you have put your money in a pooled fund, which includes deposits from various other investors, you will be classified as an institutional investor. Institutional investors may invest in the same type of securities as retail investors. However, they are typically large organisations that make investments using pooled sums of money given by several individuals.
Institutional investors deal with large amounts of money. Since they are investing on behalf of several people, they have the responsibility of taking well-researched decisions. Additionally, these investors often come with a more profound knowledge of the market and maintain some level of expertise in the field.
Institutional investors can be further categorised into various types. Some of these classifications include the following:
- Banks and insurance companies: Notably one of the most recognised institutional investors, banks and insurance firms often utilise the customer deposits as an investment for generating returns. Insurance firms use the customer premiums, while banks use their financial assets to invest in securities.
- Hedge funds: Hedge funds are formed with the sole intent of accepting pooled investments from various investors to utilise them for further re-investing in stocks, bonds, and other securities. One key feature of hedge funds is that they are not open to retail investors, and generally associate themselves with wealthy investors. The general requirement to be a hedge fund investor is to put a minimum of US$1 million into the fund.
- Mutual funds: Mutual funds are investment tools that contain a portfolio of stocks, bonds, index funds and other securities. These funds gather pooled investments from individual investors and provide them returns in the form of dividend payouts, capital gains or from the sale of the fund.
- Pension funds: Pension funds may be available in different forms in different countries. These are investment pools that provide returns to investors upon retirement. Investors store their money into pension funds for the long haul, to obtain a stable income post-retirement.
- Endowment funds: These funds take contributions from charitable organisations or university donations to invest and bring back higher returns to these investors.
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Comparing retail and institutional investors
Retail investors might not have the same amount of knowledge about the market as institutional investors. Additionally, limited technical knowledge might sometimes land retail investors in a difficult situation where they lose all their money. Moreover, there are certain investment options that are only available to institutional investors, which retail investors would not get to try their hands on.
Despite these challenges, retail investors can tap the potential of the market, even with a modest investment. Generally pooled funds require a fee to be paid, or certain criteria to be met, which retail investors can avoid by going solo.
Additionally, since retail investors only deal with small portions of stocks, they enjoy greater liquidity, and the market majorly remains unaffected by their actions due to the smaller intensity. However, this aspect stands in stark contrast to investments made by institutional investors which are sizeable in nature and can heavily influence market trends.
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