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27.2.2 Buy Side

Explore the institutional clients—corporate treasuries, insurance companies, pension funds, mutual funds, hedge funds, endowments, trusts, and investment management firms—that represent the buy side in the financial markets.

The Buy Side

The primary suppliers of capital in the marketplace are retail investors, institutional investors, and foreign investors. Users of capital, on the other hand, are typically businesses and governments. Individuals also use capital for consumer financing products such as home mortgages, car loans, and credit cards.

The companies and organizations that connect and move capital between suppliers and users of capital are known as financial intermediaries. In well-developed capital markets like Canada’s, these intermediaries are referred to as the buy side.

Institutional Clients

Institutional clients are legal entities that represent the collective financial interests of a large group of investors. They have a fiduciary responsibility to manage members’ assets, which can range into millions of dollars. The primary goals vary but may include:

  • Hedging currency exposure in a bond portfolio
  • Growing pension assets faster than inflation
  • Raising large amounts of capital for corporations
  • Minimizing tracking errors in exchange-traded funds

Types of Institutional Clients

The types of institutional clients in the market are vast, and they each have unique characteristics and needs.

Corporate Treasuries

A corporate treasury department manages a company’s financial assets to support its business activities. It deals with everything from general financial management to complex funding and risk management activities. For instance, they might hedge the currency risk of a foreign subsidiary or find the most inexpensive capital by selling equity or debt.

Insurance Companies

Insurance companies take premiums from policyholders and use them to fund potential losses. The process for selecting risks and setting premiums is known as underwriting. The premiums collected are reinvested into the company’s portfolio. Insurance companies engage dealers to help with activities like buying and selling securities, market research, and hedging interest rate risks.

Pension Funds

Pension funds manage a pool of assets to supply beneficiaries with income during their retirement years. Whether public (e.g., Ontario Teachers’ Pension Plan) or private, these funds engage dealers for buying and selling securities and market research.

Mutual Funds

A mutual fund is a pool of assets managed for the benefit of its unitholders. Dealers help mutual funds with the buying and selling of securities, market research, and hedging of various risks.

Hedge Funds

Like mutual funds, hedge funds are pools of assets managed for unitholders’ benefits but are not tightly regulated. They utilize dealers for a variety of services, including trading in equities, bonds, derivatives, and conducting market research.

Endowments

Endowments are pools of assets created from donations to support organizational goals, such as funding scholarships or medical supplies. They have the flexibility to use any investment strategy deemed fitting by fund custodians. Dealers assist with securities trading, market research, and risk hedging.

Trusts

Trusts are pools of assets created for the benefit of another party, often for reasons like tax planning or estate management. Trusts utilize dealers for trading activities and market research, much like other institutional clients.

Investment Management Firms

These firms manage investments for institutional clients, offering services through various channels like pooled investment funds and segregated accounts. Dealers help these firms by providing trading and research services and hedging various risks.

Key Takeaways

  1. Buy Side: Financial intermediaries in the market manage investments for large institutional clients.
  2. Institutional Clients: Include corporate treasuries, insurance companies, pension funds, mutual funds, hedge funds, endowments, trusts, and investment management firms.
  3. Dealer Assistance: Dealers provide market research, trading, and risk hedging services to these clients.

Frequently Asked Questions

What is the role of institutional clients on the buy side?

Institutional clients on the buy side manage large amounts of capital, aiming to achieve specific investment goals on behalf of their members or beneficiaries. They leverage services from dealers to buy and sell securities, conduct market research, and hedge risks.

How do dealers support institutional clients?

Dealers assist institutional clients by facilitating the buying and selling of securities, providing market research and insights, and offering risk management through hedging strategies.

Glossary

  • Fiduciary Responsibility: A legal obligation to act in the best interest of another party.
  • Underwriting: The process by which an insurance company selects risks and determines premiums.
  • Tracking Error: The deviation of a portfolio’s returns from its benchmark index.
    flowchart TD
	    A[Suppliers of Capital] -->|Retail Investors| B[Buy Side]
	    A -->|Institutional Investors| B
	    A -->|Foreign Investors| B
	    B --> C[Financial Intermediaries]
	    C --> D[Users of Capital]
	    D -->|Businesses| E
	    D -->|Governments| E
	    D -->|Individuals (Consumer Financing)| E

Last updated: 2023


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markdown ## What is the primary role of the buy side in financial markets? - [ ] Engaging in day trading activities - [x] Asset management and acquiring securities on behalf of clients - [ ] Issuing new securities - [ ] Managing corporate treasuries > **Explanation:** The buy side primarily involves institutional clients such as asset managers who manage investments and acquire securities for their clients. ## Which of the following is NOT an example of an institutional client? - [ ] Pension funds - [ ] Endowments - [ ] Mutual funds - [x] Retail investors > **Explanation:** Institutional clients represent collective financial interests and include entities like pension funds, endowments, and mutual funds, but not individual retail investors. ## What is the fiduciary responsibility of institutional clients? - [ ] Maximizing short-term trading profits - [ ] Following retail client recommendations - [x] Managing large sums of money on behalf of their members with their best interests in mind - [ ] Engaging in speculative trading > **Explanation:** Institutional clients manage large sums of money and have a fiduciary responsibility to act in the best interests of their members. ## How do corporate treasuries typically engage in the financial market? - [ ] By only investing in real estate - [x] By managing financial assets, hedging risks, and accessing capital markets - [ ] By issuing insurance policies - [ ] By operating as retail banks > **Explanation:** Corporate treasuries manage a firm's financial assets, hedge foreign currency risk, and raise capital through equity or debt markets. ## Which activity is NOT typically associated with insurance companies' financial operations? - [ ] Underwriting policies - [x] Day trading in cryptocurrencies - [ ] Investing in long-term assets - [ ] Hedging interest rate risks > **Explanation:** Insurance companies focus on underwriting, long-term investments, and hedging risks, not on day trading in highly speculative markets like cryptocurrencies. ## What distinguishes mutual funds from hedge funds? - [ ] Mutual funds are only available to institutional investors - [x] Hedge funds are less regulated in terms of investment activities - [ ] Mutual funds invest exclusively in bonds - [ ] Hedge funds do not use derivatives > **Explanation:** Hedge funds are less regulated regarding their investment activities compared to mutual funds. ## Which of the following best describes the investment horizon of pension funds? - [ ] Short term - [ ] Medium term - [x] Long term - [ ] Intraday > **Explanation:** Pension funds have a long investment horizon to provide income to beneficiaries during retirement. ## How do dealers assist mutual funds? - [ ] By managing their entire portfolio independently - [ ] By issuing insurance policies - [x] By buying and selling securities, offering market research, and hedging risks - [ ] By setting the fund's investment goals > **Explanation:** Dealers help mutual funds by facilitating trades, providing market research, and offering hedging solutions. ## What is a common characteristic of endowments and trusts? - [ ] They only invest in government bonds - [ ] They always operate for-profit - [x] They manage assets to achieve longevity and specific purposes - [ ] They exclusively invest in real estate > **Explanation:** Both endowments and trusts manage assets with a focus on long-term sustainability and specific organizational goals. ## Which type of institutional client typically serves accredited investors and can offer pooled investment funds and segregated accounts? - [ ] Corporate treasuries - [ ] Insurance companies - [ ] Charitable trusts - [x] Investment management firms > **Explanation:** Investment management firms target institutional investors and accredited clients through various channels like pooled funds and segregated accounts.

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Tuesday, July 23, 2024