As a trader, you’ll come into contact with various other traders, as well as various individuals and bodies; in some cases you may need their services to gain access to the markets. Read on for a look at these market participants, their functions and their motivations – and importantly your relationship with them.
A retail trader, or retail investor, is generally a private individual who buys and sells financial instruments using a personal account, not on behalf of an organisation.
If you’re reading this blog, chances are you fit this description, but what label supplies to you specifically depends on what you want to get out of your trading operations. Are you hoping to see long-term growth, accepting that the shares’ value may fluctuate in the meantime, or are you hoping for a fast profit from short-term price movements, regardless of longer-term trends?
If you’re looking for long-term growth, you’re more of an investor, but if your goal is fast profits you can call yourself a trader. Investors are interested in overall price trends and the fundamental value of the assets they trade, while traders generally prefer to capitalise on volatility and the market reactions triggered by news events.
Retail traders generally deal in relatively small sizes, often in their spare time. However, some become semi-professional and use sophisticated technology and techniques from the comfort of their own homes. As a retail trader you have access to an incredible range of financial markets, and can trade them in multiple ways to suit your preferences.
To buy or sell in the stock market, and other financial markets, you’ll generally need an authorised intermediary or broker to act on your behalf. A broker can be either a firm or an individual, and might offer:
- Full service – actively managing your investments and providing personal advice
- Advisory management – providing recommendations but leaving the final decision to you
- Execution-only dealing – simply carrying out your instructions to trade, on demand
Of course, the greater the input you want from your broker, the higher the fee you’ll need to pay.
As well as representing you and executing your trades, some brokers also separately buy and sell on their own account. A broker who does this is known as a broker-dealer.
A market maker, also known as a liquidity provider, is a firm or individual that holds an inventory of a particular security and quotes continuous prices to buyers and sellers. If you place an order that goes through a market maker, it either deals from its own holding or seeks another party’s order to offset yours. This happens electronically, almost instantaneously. A market maker can also be an individual trader, but the vast majority of market makers work on behalf of large institutions, due to the size of securities needed to facilitate the volume of sales and purchases.
The most common type of market maker are brokerage houses, which provide purchase and sale solutions for investors to help keep financial markets liquid. Market makers are compensated for the risk of holding assets, as they may see a decline in the value of a security after it has been purchased from a seller and before it’s sold to a buyer.
Most market makers operate within exchanges, so your broker will transact with them on your behalf. The only market makers you’re likely to deal with directly are forex trading firms, which offer clients the facility to buy or sell currencies OTC.
Institutional traders or investors are organisations that deal in the financial markets, generally on a much larger scale than retail traders. As a retail trader, you may have little contact with these institutions, but it’s useful to be aware of their activities.
Institutional traders manage pools of money on behalf of individual investors, and this means they sometimes make trades of a magnitude such that they influence market price movements, particularly in shares.
Institutional traders include:
- Life assurance companies
- Pension funds
- Mutual funds
- Hedge funds
The large size of these institutional traders’ positions means that they can sometimes receive benefits such as reduced commission rates.