Author: Irene Fantappiè
Date of Publication: 24/10/2022
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Everybody knows that in financial markets among their crucial components there are investors. In fact, they are the core of every investment. Also, they play a key role in determining the trend of a particular market and can be an incredible aid for public firms. Investors differentiate themselves for their appetite for returns and their aversion to risk - but how many different types of them exist?
We can categorise them in various ways, and the classification can be based on their
1. entity,
2. risk tolerance or
3. investment style.
Types of Investors by Entity
First of all, one of the main differences is the one between retail investors and institutional investors.
Institutional investors are the biggest type, as they have access to pooled funds belonging to firms and organisations. Retail investors, on the other hand, have a smaller amount of money to divide into trading and investments. Indeed, the latter usually engage in smaller trades and do not take large positions. The exception to this is Angel Investors, a category of individuals with a high net worth. They usually invest in promising start-ups and venture capital.
Retail investors are also the ones that are more likely to be affected by emotional trading and spiral into panic selling. That’s mainly because institutional investors have access to consulting and expertise. Actually, they are equipped to engage in an extensive market analysis before undertaking investments. Moreover, investors are divided based on their degree of risk aversion. There are many models that are used for the assessment of the amount of risk an individual can tolerate. Banks usually push their clients in filling out surveys to have a better understanding of their degree of risk.
Markowitz’s Mean-Variance Portfolio Theory gives a more impersonal model for optimal investment. This targets the weights in each stock based on the proportions of risk and reward.
Investors by Risk Tolerance
However, the more widespread criticism about this approach arises from the fact that the MVP approach doesn’t take into account personal risk.
But then, what are the main types according to risk?
● Conservative investors: they are the ones focusing primarily on low-risk investments. The goals of these investors are to achieve capital security, provide income and protect from inflation the money that they are going to invest.
They mostly invest in relatively safe securities, like triple A’s Treasuries and other fixed-income securities. These guarantee a stable cash flow, usually with no opportunity for growth.
● Moderate risk investors: these are stock market investors that are less risk averse. However, they still want to protect their capital from losses coming from bearish trends. The terms of their investments are a little bit longer with respect to conservatives. Moderate investors comprise a degree of investment strategies entailing different types of risks, from conservative to aggressive, without coming to extremes.
● Aggressive investors: given their expertise and experience, they have the confidence to undertake riskier investments. The maximisation of profits becomes the main goal and overcomes the goal of protecting their own capital from losses. Usually, they are more tolerant of high volatility and are capable of enduring losses. This category will have a prevalent weight of aggressive and more volatile stocks (therefore, a beta of the stock greater than 1).
Categorising by Investment Style
Nevertheless, there are other factors that might influence the most suitable investment strategy for each individual. Some of them might be
● employment,
● financial availability,
● age and even
● mindset.
If we take into account these elements and try to cluster investors together into different categories, the most common ones shall be:
● Growth investors: these investors put a lot of their capital into growth stocks, namely, young companies with high growth potential. The growth stocks that are performing best should be:
1. Arista Networks Inc,
2. Replingen Corp,
3. Coastal Financial Corp, and - obviously -
4. Tesla.
Buying stocks of these types of companies can lead investors to generate very high rewards.
● Active Investors: they entail high involvement and in order to seek short-term profits they usually look at the stock markets and price actions various times per day. They tend to follow the tendencies of the market. This investment strategy might involve a lot of capital due to the many transactions that can take place on the same day.
● Passive Investors: unexpectedly, they are the opposite of their active counterparts. The main goal of this type of investor is to build wealth gradually. Therefore, they seek securities that can be held for a larger period of time. This is also due to a different type of mindset with respect to active investors. In particular, passive ones think that beating the market is not feasible and they need more research to build a well-diversified portfolio. For instance, through index funds they can be quite helpful in terms of diversification.
● Value Investors: surprisingly, value and growth investments are often mixed up - but they aren’t the same thing. Value investment works with instruments according to their over or undervaluation. This can be done through various types of measurement, such as the P/E ratio, the debt-to-equity ratio, and others. Put in a simple way, investors buy when a stock is undervalued and sell when the stock is overvalued. The mispricing can be due to many reasons. Their belief is that eventually, the price of the stock will increase once the market realises the intrinsic value it has and demand increases as a consequence.
● Speculative Investors: this investment strategy entails more risk because it focuses on price fluctuations. The aim of this type of investment is to take a profit from changes in prices. With respect to the previous type of investor, this one cares way less about intrinsic value. The important factor is a higher price for selling at a future date. So, speculation is mainly made of assumptions.
● Retirement Investors: these are investors that aim to have more safety once they retire. This type of investment tends to entail lower-risk securities and schemes.
A Disclaimer about Subjectivity
Each individual has their own style and every one of us can find the investment category that we find more suitable. It might even change over time according to our needs. Generally, though, knowing what type you belong to can be very helpful in knowing what strategy you should go for. In fact, it can be of most importance for the persistence and consistency of your own investment.
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