Who Are Institutional Investors And Why Do They Matter?

Who Are Institutional Investors And Why Do They Matter?

Millions of investors rush to the financial markets every day, investing in stocks, bonds, crypto ,commodities, ETFs, mutual funds, etc. 

While most of these investors are retail investors with limited spare savings to gradually grow and protect their assets, a bulk of the trading volume comes from institutional investors. But who are these investors and why do they matter?

Major corporations and funds, including pension funds and trusts, invest their assets in order to generate a return for their shareholders, or clients. This creates a large demand for these institutions to have easy access to the markets and execute trades without delay. Most of these institutions have billions of dollars of capital to invest, which ensures liquidity on the market. 

Institutional investors are typically well-versed in financial markets and have teams of analysts and traders to pick and choose the best possible investments that will fit their investment profiles and generate lucrative returns. 

In reality, major institutional investors ensure the stability of the market and create liquidity that retail investors greatly benefit from. 

If you would like to know more about institutional investors, who they are and why they’re important - this Investfox guide is for you. 

Types Of Institutional Investors

Generally, there are a few different types of institutional investors, who may have varying objectives and expected returns. As a rule of thumb, most institutional investors are risk-averse and very picky when it comes to their portfolios. 

Here are some of the most common types of institutional investors found in financial markets:

  • Pension funds - These are retirement funds set up by employers to provide retirement benefits to employees. Pension funds manage the contributions made by both employers and employees and invest those funds in various assets to generate returns over time
  • Mutual funds - Mutual funds pool money from multiple investors to invest in a diversified portfolio of stocks, bonds, or other securities. They are managed by professional fund managers who make investment decisions on behalf of the fund's shareholders
  • Hedge funds - Hedge funds are private investment funds that typically cater to high-net-worth individuals and institutional investors. Overall, hedge funds have more flexible strategies than mutual funds 
  • Insurance companies - Insurance companies invest the premiums they collect from policyholders to generate returns and ensure they can meet their obligations to policyholders
  • Endowments and foundations - These institutions manage assets to support specific missions or purposes, such as funding education, research, or charitable activities
  • Investment banks - Investment banks engage in various financial services, including underwriting securities, facilitating mergers and acquisitions, and proprietary trading
  • Sovereign wealth funds - These are state-owned investment funds that manage a country's foreign exchange reserves and other assets
  • Private equity firms - Private equity firms raise capital from institutional investors and use it to acquire, invest in, or provide financing for private companies
  • Asset management companies - These companies specialize in managing investment portfolios for various institutional clients, including pension funds, endowments, and insurance companies
  • Central banks - While primarily responsible for monetary policy and currency stability, central banks also manage foreign exchange reserves and may invest in various financial assets to generate returns

Why Institutional Investors Matter

Institutional investors provide valuable wealth management services to the investing public. As the definition of an institutional investor is broad, they may range between anything from insurance companies to sovereign wealth funds, which are essential for the economic health of the countries where they are domiciled. 

In financial markets, institutional investors perform some important functions, such as providing a bulk of the market’s liquidity, offering advanced financial services, trading software, market research, and overall stabilization. 

Many institutional investors invest in major funds that track major indices, such as the S&P 500

Furthermore, retail investors can view the major shareholders of various financial instruments and depending on the institutions involved, choose whether to invest themselves. This is what is typically referred to as “smart money”, due to the immense research capabilities at institutional investors’ disposal. 

When institutional investors start to massively shift their strategies, this marks changes in the overall attitudes of other investors towards the market. 

For example, when interest rates rise, many institutional investors pull money out of the stock market and start buying bonds, which leads to a major pullback in stock performance. 

Therefore, institutional investors serve as both market makers and major financial service providers. 

Key Takeaways From Who Are Institutional Investors And Why Do They Matter

  • Institutional investors are major financial corporations and funds that serve a vital role in the health of the financial markets by providing trillions of dollars in combined liquidity 
  • Institutional investors are pension and hedge funds, sovereign wealth funds, trusts, insurance companies and investment banks 
  • Aside from their inherent services, institutional investors also offer a wide range of investment software, advisory and management services to other institutions and retail investors alike 

FAQs On Who Are Institutional Investors And Why They Matter

What do institutional investors do?

Institutional investors are major financial institutions and funds that invest a lot of capital in the financial markets and may include pension funds, hedge funds, insurance companies, etc. 

Are banks institutional investors?

Yes. Commercial and investment banks are also institutional investors that provide wealth and asset management services to thousands and millions of clients locally and internationally. They invest their clients’ funds in a variety of stocks, funds, bonds, etc. 

What is the difference between institutional and retail investors?

Institutional investors are legal entities, such as investment banks, hedge funds, insurance companies, etc. that have billions of dollars in capital, while retail investors are regular market participants who invest their savings.