What Is an Institutional Investor?

Institutional Investors Explained

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Institutional investors, according to the Financial Industry Regulatory Authority (FINRA), are entities such as persons, corporations, partnerships with at least $50 million in total assets. They often include banks, insurance companies, mutual funds, pension funds, and other financial institutions that pool investments from small investors.

Learn more about how institutional investors work, and their role in the U.S. equities market. 

Definition and Examples of Institutional Investors

Institutional investors are entities including corporations, partnerships, or persons that have a minimum of $50 million in total assets. Institutional investors can also include banks, mutual funds, and insurance companies that pool together investments from smaller investors.

Other entities such as government organizations, certain employee benefit plans, and qualified investment plans with over 100 participants and broker-dealers can also be classified as institutional investors.

In fact, the U.S. Securities and Exchange Commission (SEC) has an even more niche categorization for larger institutional investors with more than $100 million in discretionary assets as Qualified Institutional Buyers (QIB). 

Institutional investors provide a large share of equity ownership in the stock market. In 2009, institutional investors owned 73% of the outstanding equity in the largest 1,000 U.S. corporations in the stock market. The percentage of U.S. public equities managed by institutions was about 67% in 2010.

By 2017, institutional investors held 41% of the market cap of companies listed across the globe, with U.S.-based institutional investors accounting for nearly 65% of that ownership.

How Do Institutional Investors Work? 

Institutional investors are subject to different regulatory requirements by the SEC, and they have different organizational and governance structures. Institutional investors do not all act the same, as they each buy or sell asset classes at different times. Their strategy is different among companies since they have distinct goals and timeframes for their investments. As a result, their interaction with the market occurs in different ways.

Institutional investors play a key part in the capital market as they help continue the growth in the economic system. They help provide a strong support for the market as they provide capital and liquidity. The financial markets are influenced by the investors who help with growth in the equities market.   

Institutional investors can also wield their ownership and act as activist investors to affect corporate governance changes in companies they invest in. That may or may not be a good thing for individual shareholders of that company.

However, actions of institutional investors can also have far-reaching negative consequences. The great recession that followed the housing bubble burst in 2008, is a prime example.

Institutional Investor vs. Retail Investor

Institutional investors are professional investors who buy and sell securities based on their research, investment outlook, and even time horizon. Institutional investors have funding, resources, and analysis available that retail investors don’t have. Retail investors are the normal investors who buy investments for themselves. Retail investors are also called individual investors.   

An institutional investor has another benefit that retail investors do not have: institutional investors can buy a large share of funds at a cheaper price than retail investors can. 

Pros and Cons of Institutional Investors

Pros
    • Command large shares of the equities market that can help growth of market structures and efficiency
    • Ownership by institutional investors can have a corporate governance impact in companies.
Cons
    • Their investment decisions can have a big impact on a single stock or even broader markets
    • Activist investors can sometimes hurt individual shareholders

Pros Explained

  • Command large shares of the market: This can help promote growth of market structures and provide efficiency.
  • Corporate governance: Institutional investors with a significant stake in companies can be good for corporate governance.

Cons Explained

  • Their investment decisions can have a big impact: Research indicated that lack of due diligence by institutional investors created the housing bubble and their actions after the housing bubble burst deepened the financial crisis further.
  • Activist investors can hurt individual shareholders: A 2015 study found that companies targeted by activist investors are pressured into making fewer long-term investments such as in research that benefits business, which would eventually impact the company and its shareholders.

What Institutional Investors Mean for Individual Investors

While they are dominant stock owners, institutional investors such as mutual funds and pension funds essentially are investing on behalf of individual investors. Retail investments pooled together offer such institutions buying power and the scale to negotiate better pricing and fees. 

Key Takeaways

  • Institutional investors are entities that have at least $50 million in total assets. 
  • Banks, insurance companies, mutual funds, hedge funds, and others can be institutional investors.
  • Institutional investors have different regulatory requirements compared to retail investors.
  • Investment decisions of institutional investors can have big consequences for individual stocks as well as broader markets.