Different types of investors are attracted to investing for different reasons. Two of the most common types are institutional investors and retail investors. So, what exactly is an institutional investor, and what exactly is a retail investor? The two are very different, though many mistake them for the same thing.
What Is The Difference?
The main difference is the way in which they invest. Institutional investors do not invest their own money; they invest the money of others for them. Many of these entities are multibillion-dollar businesses that invest other people’s money in order to increase their overall revenue and profits. Think of Wall Street titans or City of London investors when defining institutional investors.
The retail investor, on the other hand, is an ordinary person who invests through a brokerage firm or retirement accounts, with the aim of meeting personal financial goals. A real-life example would be the infamous GameStop short squeeze case, where retail investors were likely to buy the stock, while institutional investors were likely to short it. In summary, here are all the key differences:
- Investments made by institutional investors are made with other people’s money.
- The majority of stock market transactions are conducted by institutional investors, who account for the vast majority of all transactions on major stock indices.
- Investments and trading by institutional investors achieve such massive volumes that they are rewarded with special privileges and treatment, such as very low transaction fees.
- A retail investor is someone who invests his or her own money for the benefit of their own financial goals.
- In order to buy and sell stocks, a retail investor must work with a broker, who’ll charge a fee or commission.
- Retail investors build a trading and investment strategy with their own resources and knowledge while institutional investors have thousands of employees and access to sophisticated analysis tools and vast pools of data.
Benefits of Institutional Investing
- Index Funds
- Hedge Funds
- Pension Funds
- Mutual Funds
- Insurance Companies
- Exchange-Traded Funds (ETFs)
The institutional investors are the big players on the block – the elephants with a lot of financial muscle. If you are a member of a pension plan like a 401K or have any type of insurance or mutual fund, then you are already benefiting from the expertise of institutional investors.
It’s their job to move massive sums of money around and invest them strategically, so most are staffed with highly educated and qualified individuals. Approximately 85% of all trading activity on major indices, like the New York Stock Exchange, is attributed to them.
Whenever you read about financial market developments, you are almost always seeing news about institutional investors, since retail investors rarely impact markets as a whole. There are rare exceptions to this rule with events such as GameStop or Bitcoin 2021, which were largely influenced by individual investors.
Benefits of Retail Investing
Brokers, banks, or mutual funds are usually the conduits through which retail investors invest in debt, equity, and other investments. Traditional, full-service brokerage firms, discount brokers, and online brokers are usually the mediums through which they execute trades.
This allows them to invest in much smaller amounts and less frequently than institutional investors and, thus, have a lower risk level. However, they’ll often have to pay higher commissions and other fees on their trades than institutional investors, as well as additional fees on their investments because of their weaker purchasing power.
The typical goal of retail traders is to save for retirement, buy a home, or otherwise be able to afford a large purchase. Compared to institutional investors, they are not under pressure to perform at a certain level besides their own expectations. And although retailers are generally less qualified and experienced, they have just as many 3rd party trading analytics tools available.
They are, however, considered by the SEC, which has the responsibility of protecting investors as well as ensuring an orderly market, to be more unpredictable and less sophisticated. Individual investors may not represent as much of the overall market as institutional ones, but they still play an important role in economic growth. Due to this protection, they are prohibited from making certain risky and complex investments.
Which Type of Investing Is Better?
Institutional investors are essentially professionals who live, breathe, and eat investments all day long. As a result of their constant presence in the market, they’re deemed to be experts and a smart place to place your money for the long term most of the time.
However, the fact is that it depends. It depends on many things such as your personal goals, experience, buying power, etc. Although investing through large institutions is a time and tested method that outperforms retailers every year, there are exceptions to every rule.