Institutional Investors: Definition, Types & Key Players

An institutional investor is a legal entity that accumulates the funds of numerous investors (which may be private investors or other legal entities) to invest in various financial instruments and profit from the process. In other words, an institutional investor is an organization that invests on behalf of its members.

Quick Summary

• Institutional investors are legal entities that participate in trading in the financial markets.
• Institutional investors include the following organizations: credit unions, banks, large funds such as a mutual or hedge fund, venture capital funds, insurance companies, and pension funds.
• Institutional investors exert a significant influence on the market, both in a positive and negative way.

Types of Institutional Investors

There are several types of institutional investors, such as:

• Banks
• Credit unionsCredit UnionA credit union is a type of financial organization that is owned and governed by its members. Credit unions provide members with a variety of financial services, including checking and savings accounts and loans. They are non-profit organizations that aim to provide high-quality financial services
• Pension funds
• Insurance companies
• Hedge fundsHedge FundA hedge fund, an alternative investment vehicle, is a partnership where investors (accredited investors or institutional investors) pool
• Venture capital funds
• Mutual fundsMutual FundsA mutual fund is a pool of money collected from many investors for the purpose of investing in stocks, bonds, or other securities. Mutual funds are owned by a group of investors and managed by professionals. Learn about the various types of fund, how they work, and benefits and tradeoffs of investing in them
• Real estate investment trusts

Institutional investors are entitled to preferential treatment and lower fees. They are also subject to fewer protective rules because they are more qualified traders than individuals and thus better able to protect themselves.

Impact of Institutional Investors

Often called market makers, institutional investors exert a large influence on the price dynamics of different financial instruments.

The presence of large financial groups in the market creates a positive effect on overall economic conditions. The institutional investors’ activism as shareholders is thought to improve corporate governance because the monitoring of financial markets benefits all shareholders.

In addition, institutional investors can access and know how to explore a variety of investment instruments not available for private investors.

Characteristics of Institutional Investors

The characteristics of institutional investors are the following:

• It is always a legal entity, and it is important to understand that an institutional investor is an enterprise managing a fund (e.g., a mutual fund), but not the mutual fund itself.
• The basis of an institutional investor’s activity is professional, and it manages assets based on the interests and goals of its clients.
• An institutional investor always manages a significant number of funds.

Individual Investors vs Institutional Investors

An individual can invest in any assets that are available to them on the exchange. An institutional investor can also buy assets but is oriented more on long-term investing.

Institutional investors also access large operational activities due to corporate opportunities. With substantial capital and licensing, large institutions secure access to many assets that are not available to private individuals.

They include foreign securities, government business loans, changed banking policies, interest rates, and more. If individuals work as retail investors, institutional investors are more likely to conduct wholesale purchases.

Risks in Institutional Investing

Understanding the risks that institutional investors face is very important. Their problems can be classified as follows:

• Permanent risks of non-compliance with the legal rights of shareholders. They include a lack of qualified, experienced appraisers and a lack of a clear and well-established policy on the payments of dividendsDividendA dividend is a share of profits and retained earnings that a company pays out to its shareholders. When a company generates a profit and accumulates retained earnings, those earnings can be either reinvested in the business or paid out to shareholders as a dividend..
• Problems with the work organization of management structure and officials. The employment of managers and analysts is formal, and there is no model for determining the quality of their work. Such problems are also present in other divisions, such as top management or marketing.

Additional Resources

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