Institutional investors are the large organizations with massive amount of money, which they invest into different companies and they also hold the portion of equity, the leading institutional investors are pension funds, mutual funds and insurance funds. Institutional investors work for the financial return which means profit earned by each investment rather than private benefit of control such as social status.
There are three main forms of institutional investors, first institutional investors act as an independent legal body. Second, their main business operations are referring to the management and disposal of external finance through specially trained employees. Lastly, institutional investors are identified by their portfolio holdings, which are labeled by an above average quantity of orders, which is able to impact financial markets. (Sturm)
The growth of the institutional investors has been impressive in the most industrialized countries therefore they have become a vital factor in the capital market and they are playing an essential role in the corporate governance.
Corporate governance is a structure of rules and practices for the directors to ensure responsibility, loyalty and transparency in the relationship of a company and its stakeholders. Directors have a fiduciary duty to act in the interest of the shareholders, when the conflict of interest arises institutional investors can potentially influence directors to act in the interest of shareholders by using their ownership.
According to the Organization for Economic Cooperation and Development (OECD) “Institutional investors are major collectors of savings and suppliers of funds to financial markets.” (Sturm)
Institutional investors are becoming more dominant in corporate governance, by following the principles of corporate governance well-managed companies essentially bring reasonable returns over the long-term investments and shareholders have less risk of losing their investment to corporate failure.
Institutional investors are also expected to monitor the company’s compliance with requirements of the referring laws and regulations including significant codes of governance. In governance framework of entity, processes and policies should be judged bearing in mind the size and complication of the company, as well as the nature of the risks that the company is bared to. (Adeyemi)
Institutional investor’s holdings are significant in financial market that’s why they are accountable to shareholders for the stability of the stock markets which means the strategies of buying and selling shares by these investors contributes to pushing stock prices away from their fundamental values. On the other hand if all institutional investors respond to the same information in a timely manner, they are indeed helping to increase market efficiency by pushing the prices to the new principles. The stability of the stock market fluctuates on the institutional investors decisions because they have a potential influence over the market.
If we look in the past, institutional investors have progressively gained importance since the early 1990’s, the assets under management in these funds have expanded three times since 1990 to reach more than US$ 45 trillion in 2005, including over US$ 20 trillion in equity. (Cosset)
The best example, which shows the rapid influence of institutional investors over the past years, is the large institutional investors-a category that includes all the managers with at least $100 million under management nearly doubled their share of the common-stock market from 1980 to 1996. By December 1996, these large institutions held leftover control over more than half of the U.S equity market. Moreover, even within this group of large institutions, ownership became more highly established (the one-hundred large institutions increased their…