Stock trading sounds intimidating for most of us. However, that changed somewhat drastically during the lockdown period due to COVID-19. According to an estimation, the stock market welcomed almost 13 million amateur stock traders during quarantine because of the coronavirus pandemic. This tells us that stock trading is becoming more and more accessible to average people. Nevertheless, your common everyday American cannot become a professional investor overnight. For beginner amateur investors, we use the industry specific term of retail investors.
Retail investing has become increasingly popular among the masses. Still, not a lot of people understand what it actually is. That’s why in this article we tell you everything you need to know about retail investing and whether or not should you become a retail Investor. So, let’s get started!
Difference Between Retail Investors and Institutional Investors
First of all, let us understand what retail investors actually are and how are they different from accredited investors. When you think of stock traders and people who invest in the stock market, you’re typically picturing an institutional investor. Institutional investors, also called accredited investors are professional individuals or organizations that make investments as a job. For example, banks, insurance companies, financial managers, brokers, high net worth individuals (HNWI), equity firms, hedge funds, endowment funds, etc.
These professionals are responsible for more than 85% of the trade occurring on the New York Stock Exchange. Since they are pros, they have an enormous amount of knowledge about finances, stocks, shares, and trends that allow them to make good decisions for a lot of profit.
On the other hand, retail investors are non-professional persons who buy and sell stocks as a side job or a hobby. Basically, they are amateurs. Retail investors are further divided into two kinds. First, the ones who manage their trades personally, usually through trading and investment apps like Robinhood or Fidelity, etc. Second, the ones who hire a bank, a broker or a real estate agent to do the trading for them. In this case, they pay the brokerage firm or agent for their expert knowledge in the field to gain maximum profits.
One key difference between retail investors and institutional investors is that the former uses his or her own money while the latter invests other people’s money on their behalf. Accredited investors usually have a diverse portfolio while retail investors have a small to average sized portfolio. This is because amateurs are somewhat limited in their available investing options.
What Can You Invest in as a Retail Investor?
Typically, people assume that retail Investing is limited to the stock market only. However, this is not true. You can invest in anything you want. If you don’t understand the stock market but still want to become a retail investor, try alternative investments. Alternative investment refers to any kind of investment you make outside of stocks, cash, and bonds. It can include but is not limited to real estate, gold, precious metals, antiques, valuable collectibles like wine, art, coins, commodities such as energy or agricultural products, hedge funds, private loans, etc. In short, you can invest and trade in anything.
Why is Retail Investing is On the Rise in 2021?
Like I mentioned earlier, the lockdown of 2020 saw a surge in the popularity of retail investing. This is because of a number of reasons. Firstly, the free time on hand during lockdown gave people a chance to explore their hobbies. For a lot of them, it was stocked. Similarly, they had plenty of time to learn more about this field. An increasing number of people became self-taught about stocks and shares in this period. We can guess that from the increased number of social network apps for investors nowadays. Secondly, the monthly stimulus paychecks most Americans gained during this time encouraged them to try retail investing.
They were motivated by not only the extra income but also the need to save up money in case of emergencies. Not to mention, the economic crisis after COVID-19 further fueled them to pursue other passive modes of income. Lastly, the ease and convenience of trading in stocks using digital Investment and trading apps have also contributed to the rise of this cause.
The Pros and Cons of Retail Investing – Why Should You Become a Retail Investor
Retail investing has never been easier. As compared to institutional investors, who need a ton of knowledge and a sizable portfolio to become actual pros, retail investors only need some money and an online trading app. Of course, you can take it up a notch by employing a brokerage firm or an agent but that’s not the minimum requirement. So, here are some pros and cons of becoming a retail investor that you should know about to help make your decision.
Pros of Retail Investing
1. You Don’t Need a Huge Amount of Capital
The selling point of trading apps is this – there’s no minimum investment. You can take whatever amount you want and invest it in stocks. Since retail investors do stock trading as individuals, they are not required to trade in large quantities like accredited investors.
2. It Affords More Liquidity
One of the top reasons people become retail investors is the liquidity of their stocks. If you’re an institutional investor, your stocks are more complex. You’re bound by many deeds and contracts that don’t allow you to liquidate your stocks at will. However, this is not the case with retail investing. You are not tied to your portfolio and sell stocks in your name anytime you want.
3. There’s Less Documentation involved
Institutional investors need to file more documents because they trade in large quantities of stocks. This is done in order to promote trust and transparency between the investors and Securities & Exchange Commission (SEC). Contrarily, retail investors deal with stocks on a small level. That’s why they are not required to do so much paperwork. Nonetheless, in some trading apps, you’ll be asked to file some paperwork if your income exceeds $53.
Cons of Retail Investing
1. There’s Insufficient Financial Guidance available for New Retail Investors
The popularity of retail investing and the sudden rise in the number of amateur traders doesn’t mean they are all rolling in cash now. There are gains but there are also losses. One of the biggest challenges a new retail investor will face in this field is the lack of knowledge and guidance. Usually, amateur investors get their ideas and investment insights through social media platforms. These include WhatsApp, Discord, Twitter, Reddit, YouTube, etc. Not to mention, there is a lack of research and data when it comes to alternative investments as well. All this makes it incredibly difficult for amateur investors to make profitable informed decisions.
2. You’ll Have to Pay a lot of SEC Fees
Additionally, institutional investors don’t have to pay high fees and commissions. This is because they commonly, trade in large quantities and are also considered trustworthy enough to not make risky investments. On the contrary, retail investors are charged with high fees and commissions in order to deter them from making complex and risky moves.
3. There’s No Tax Benefit
Institutional investors are professionals. They can write off buying and selling stocks as a business expense. The same cannot be applied to retail investors. Usually, you have to pay long term taxes on securities you’ve held for more than a year. And short term taxes on securities you’ve held under your name for less than a year. If you want to avoid paying taxes on these, you need to obtain a tax trader status from the IRS.
4. You Cannot Trade in Bulk Stocks
One defining feature of institutional Investing is trading stocks in bulk quantities. Retail investors cannot afford this due to various reasons. Firstly, they do not have the capital to buy so many stocks at once. Secondly, there are more restrictions from the SEC on them due to the reasons mentioned above. This concludes that even if you’re successful as a retail investor, it’s very likely that you won’t have the opportunity to grow and expand.
The Bottom Line
The final words are that retail investing is a very lucrative side hustle. It is for all individuals that are of legal age, including students who want to save up money in college. With the rise of technology and online trading apps, it has become even more accessible to more people. Sure, there are some limitations but if you have ample knowledge of the stock market and finances, you can make this work incredibly well in your favor.