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Anyone, whether an individual or an entity, who invests in a stock market and purchases and sells shares and other financial assets is called an investor. An investor is a key pivot of a stock market, without whom the entire idea of it is incomplete. Investors can, however, be broadly categorised based on the type of investments, type of investment style, and the risk appetite. One such type of investors who play critical roles in deciding and reversing market trends are called institutional investors. While the concept of individual investor is commonly understood, it is essential to learn and understand the concept of institutional investors. This way, you can better understand how the market functions and is influenced by institutional investor actions.
Institutional investors are a category of large investors in the Indian stock market that pool funds from multiple investors and use them to purchase a wide range of securities like equity shares, bonds, debentures, and even derivatives, among others. This category of investors is termed ‘institutional’ investors because they’re made up of organisations and entities instead of individuals.
Institutional investors are crucial for the seamless functioning of the Indian financial markets. Here’s a quick glimpse into the kind of role these investors have in the markets.
Institutional investors typically invest large sums of money, making them a crucial capital source for companies. Companies coming out with their IPOs often offer preferential treatment to institutional investors to ensure that their issue is well subscribed. The ability of such investors to infuse significant capital makes securing funding a lot easier for companies and eliminates the need for companies to rely heavily on retail investors.
Certain securities might be out of reach of individual investors owing to large capital requirements. Here’s where institutional investors come into the picture. Such a category of investors pools money from several investors, including individuals, into investment vehicles like mutual funds.
The funds from these investment vehicles are used to invest in securities that are generally out of the reach of retail investors. Furthermore, institutional investors employ teams of experienced personnel with a vast array of knowledge about the financial markets to ensure the funds of investors are professionally managed.
Since institutional investors invest significant sums of money into the financial markets, they can move the market. In fact, these investors are the driving force behind supply and demand for financial assets. This gives them the ability to greatly influence asset prices in the markets.
The Indian financial markets witness participation from a wide range of institutional investors. Let’s get a closer look at a few of the different types.
One of the largest institutional investors in India is mutual fund houses. They are entities that pool funds from investors and invest them in a basket of different securities known as mutual funds. These funds are professionally managed by experienced fund managers and enable individual investors with little to no knowledge of the markets to create wealth.
Hedge funds are another type of institutional investor present in the market. Similar to mutual funds, hedge funds also pool money from different investors and use them to purchase securities from the market.
However, they tend to adopt a more aggressive approach compared to traditional mutual funds, which makes them more risky. Furthermore, hedge funds often indulge in speculative trading using derivatives and tend to take both long and short positions to hedge risk.
Pension plans like the National Pension System (NPS) and the Public Provident Fund (PPF) also invest large sums of their subscribers’ money in the financial markets. The returns from their investments are used to provide a wide range of retirement benefits to their subscribers.
Another major institutional investor in India is insurance companies. These companies invest the premiums collected from policyholders in different companies. A portion of the returns from their investments are distributed to the policyholders in the form of bonuses and are also used to pay out insurance claims.
Banks and financial institutions like NBFCs and micro-lenders also routinely invest in the Indian financial markets. These institutional investors invest on behalf of their clients and on their own for diversification or income generation.
Institutional investors in India can be classified into two types – domestic institutional investors (DII) and foreign institutional investors (FII). Here’s a closer look at the difference between the two.
Entities that are registered and conduct business in India are termed domestic institutional investors. Meanwhile, Foreign institutional investors, also known as Foreign Portfolio Investors (FPIs), are entities that are registered and conduct business outside India.
In addition to this, there are other differences between these two types of institutional investors. Here’s a table explaining what they are.
Particulars | Foreign Institutional Investors | Domestic Institutional Investors |
Investment Restrictions | FII investments are restricted to a maximum of 24% of the paid-up capital of a company | DIIs have no such investment restrictions |
Investment Horizon | FIIs usually invest for the short to medium-term | DIIs often invest with a long-term view |
Currency Risk | Investments made by FIIs require foreign exchange conversion, they’re subject to currency risk | Investments made by DIIs are not subject to currency risk |
To sum it up, institutional investors are integral players in the domestic and global financial landscape. With their significant assets and strategic investment approaches, they have the potential to stabilise markets, fuel large-scale projects and facilitate economic growth. And as you continue to navigate the complexities of the financial world, a comprehensive understanding of the roles and influence of these financial powerhouses is crucial.
That said, although institutional investors are different from retail investors in many ways, there’s one common ground — all categories of investors need demat and trading accounts to participate in the markets. If you do not have them yet, you can open these accounts with Bajaj Broking. With a 100% digital 3-step process, we make it easy for investors to get started with stock trading and investments right away.
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