The equity market
The equity market is where shares of publicly traded companies are bought and sold in exchanges. When an investor owns a company stock, they become a partial owner of that company. They have the potential to benefit from its success and to have a return on their investment either in the form of share price growth or dividends.
Most investors do not have the necessary resources to analyze the universe of shares available globally. For example, the MSCI ACWI Investable Markets Index (IMI) has over 9,000 securities, but the equity universe that MSCI monitors has over 34,000 securities. There are also regulatory requirements for accessing and trading in exchanges.
This is where asset managers come in. Asset managers have the resources and knowledge to create financial products which simplify the act of investing. Investors can choose a product from their offering that best fits their requirements. Larger, institutional investors, such as pension funds, may also request specific solutions and provide a set of instructions — including what index should be used as a performance benchmark.
Individual investors may also require assistance that goes beyond the choice of a financial product. Wealth managers can look at their clients’ overall financial position and advise how to shape it — for example incorporating tax and retirement planning.
When an asset manager decides to trade, they need to use the services of a broker. A broker is authorised to execute trades in exchanges and other venues. Exchanges serve primarily as marketplaces, but they also define the terms of futures contracts — a type of financial product that may be used to hedge against market fluctuations.
The fixed income market
The fixed income market covers a wider range of security types, like corporate or government bonds, which mostly trade outside the exchanges. Asset managers will work with their brokers on over-the-counter (OTC) markets, where buy and sell orders are matched through a communications network. The interactions between ecosystem participants remain very similar: asset managers provide the expertise and financial products that investors need to invest in the fixed income market — and wealth managers provide support to individual investors.
The alternative markets
Investors may also use other types of money managers like hedge funds and private capital managers.
Hedge funds apply multiple investment strategies and usually only work with institutional investors looking to further diversify their portfolios. They interact with brokers and exchanges in a similar manner to asset managers — even if they use a wider range of financial instruments and undertake more complex transactions.
Hedge funds may also leverage the assets they manage to borrow additional money to invest. This could amplify potential gains but also increase potential losses. They may also ‘short’ securities if they expect it to fall in price, by borrowing securities from a broker.
Private capital firms operate in private markets where participants and terms of the transactions tend to be less visible to outside participants. Transactions in a private market tend to involve more complex financial instruments and deal structures, and have historically been restricted to larger, institutional investors.
In most instances, investors’ assets will be pooled into funds for a specific period, during which their capital cannot be accessed. For this reason, investments in private capital tend to be seen as illiquid but come with an expectation to deliver higher returns than stocks or bonds over the long term.