In the previous article, we reached the inference that the prices are influenced by the orders placed by individuals. Thus, if we knew the intended actions of others with their orders, it would become effortless for us to anticipate the direction in which the price would move, correct?
As a trader, our job is to predict what other people are going to do. because that ultimately drives the market.
Now, how do we do that? for that, we need to know who the financial market participants are because different players play the game differently, so we must understand each player’s approach to avoid being exploited by them.
In Finance, Trading is a zero-sum game, every penny you put in your pocket comes from someone else’s.
Proprietary Trading Firms
Proprietary trading firms are financial institutions that trade in various financial markets using their own capital, as opposed to executing trades on behalf of clients. they are professional traders.
These firms employ professional traders who use advanced quantitative and technical analysis techniques to identify profitable trading opportunities in various markets such as stocks, bonds, commodities, currencies, and derivatives.
Unlike traditional banks or investment firms, proprietary trading firms usually do not engage in traditional banking activities or provide investment advice to clients.
Instead, they use their expertise and capital to generate profits by taking advantage of short-term market inefficiencies, volatility, and other opportunities.
Proprietary trading firms often use sophisticated trading software, algorithms, and high-frequency trading techniques to execute trades quickly and efficiently.
They also typically operate in a highly competitive and fast-paced environment, where quick decision-making, risk management, and innovation are key to success.
Proprietary trading firms are widely regarded as being “smart money” due to their expertise and experience in the financial markets.
They excel at identifying and capitalizing on small market inefficiencies and executing trades quickly to take advantage of these opportunities.
These firms have access to a lot of tools, information, and low commissions, making them highly competitive players in the market.
Given their specialized knowledge and advanced trading strategies, proprietary trading firms are considered among the best in the business.
They can generate profits consistently by leveraging their expertise, technology, and capital to stay ahead of the competition.
Investors
Investors are individuals or entities that allocate their capital to financial assets with the expectation of generating a return on their investment.
This return can come in the form of income, such as interest or dividends, or capital appreciation, which is an increase in the value of the investment over time.
Investors typically have a long-term investment horizon and seek to build wealth over time through a diversified portfolio of assets.
The investment strategies used by investors vary depending on their financial goals, risk tolerance, and time horizon.
They buy assets and hold onto them for a long time, without frequently buying and selling. They invest for the long term by putting their money into the market and keeping it there.
Retail Traders
Retail traders are individuals who trade financial assets for their own personal accounts, rather than on behalf of an institution or client.
They typically trade smaller amounts of money compared to institutional traders and use online trading platforms provided by brokerage firms to execute trades.
Retail traders may trade in a variety of financial markets, such as stocks, bonds, options, and futures. They may use various trading strategies, including technical analysis, fundamental analysis, or a combination of both, to identify potential trading opportunities.
Retail traders may also engage in day trading, which involves opening and closing positions within the same trading day or swing trading, which involves holding positions for several days or weeks. Some retail traders may also engage in high-risk trading strategies, such as leverage or margin trading, which can amplify potential gains but also increase the risk of significant losses.
Unlike institutional traders, retail traders may not have access to the same level of resources and information. They must rely on their research and analysis to make informed trading decisions. As a result, retail traders may face greater challenges and risks in the financial markets.
In the beginning, we all fall into this category.
Portfolio Managers / Mutual Funds
Mutual funds are investment vehicles that pool money from multiple investors to buy a diversified portfolio of securities such as stocks, bonds, or other assets.
These funds are managed by professional portfolio managers who use the pooled money to purchase a range of investments, with the goal of achieving specific investment objectives.
Investors buy shares in the mutual fund, and the value of their investment is based on the performance of the underlying securities held by the fund.
The price of a mutual fund share is determined by the net asset value (NAV) of the fund, which is calculated by dividing the total value of the fund’s assets by the number of shares outstanding.
Mutual funds offer several advantages for investors, including diversification, professional management, and liquidity.
By pooling money from multiple investors, mutual funds can provide a diversified portfolio of assets that can help mitigate risk.
Professional portfolio managers make investment decisions on behalf of investors, which can save time and effort for individual investors who may not have the time or expertise to conduct thorough research on their own.
Additionally, mutual funds are generally liquid, meaning investors can buy or sell their shares on any business day, allowing for flexibility and access to their invested funds.
Mutual funds may charge fees, such as management fees and expense ratios, which can impact an investor’s returns.
Additionally, mutual funds may be subject to market risk, interest rate risk, and other types of investment risk, and investors should carefully consider their investment objectives, risk tolerance, and the fees and expenses associated with the fund before investing.
They follow a prospectus agreed by the clients.
They try to outperform the market, but it’s not the reality anymore, because the fees that they charge add up, and if you just buy an ETF you can easily outperform them in the long term.
They are one of the big players in the market. Their holdings are publicly available so if you know what they own, and when they are in profit, they tend to sell some of their holdings and purchase undervalued stocks. so you can kinda expect their moves in the markets.
Hedge Funds and Banks
A hedge fund is an investment partnership that pools capital from accredited investors or institutional investors and invests in a wide range of assets, including equities, bonds, commodities, currencies, and derivatives.
Hedge funds are managed by professional fund managers who use a variety of strategies to generate returns for their investors.
Hedge funds differ from mutual funds in several ways:
For example, hedge funds can use leverage (borrowed money) to increase their investment returns and can engage in short selling, which is the sale of borrowed securities in the hope of buying them back at a lower price.
Hedge funds also typically charge a performance fee, which is a percentage of the profits earned by the fund, in addition to a management fee.
Hedge fund managers are typically highly skilled and experienced investment professionals who employ a range of strategies to generate returns.
These strategies can include long/short equity, global macro, event-driven, and quantitative strategies.
Hedge funds also typically have greater flexibility in their investment approach compared to mutual funds, allowing them to take advantage of a wider range of investment opportunities.
While hedge funds can offer the potential for high returns, they are also considered high-risk investments due to their use of leverage and complex investment strategies.
Hedge funds are generally only available to accredited or institutional investors and are subject to less regulatory oversight compared to other investment vehicles, such as mutual funds.
As a result, investing in hedge funds requires careful consideration of the risks involved and a thorough understanding of the investment strategy and the track record of the fund manager.
in simple words not everyone can invest in hedge funds, you gotta be savvy and super-rich.
And they are very discreet, so we can’t know what positions they have until it’s too late for us to take action.
Conclusion
If a big player holds a big portion of a certain asset, and he wants to sell, he is not going to sell like someone who trades from home. Because if he does that, he knows that he will push the price down and make it plummet.
So big players tend to go against the small players, they sell when others are buying and buy when others are selling.
They have to wait for there to be enough buyers in the market. Typically, the best time for them to sell is when there is good news, such as earnings reports, which attracts retail traders and smaller players to buy, providing enough buyers in the market.
So most of the time big players go against the small players. keep that in mind.
So, we can somewhat guess what others are going to do, by guessing what other players are going to do we can guess what’s the asset going to do.
At the end of the day, you are not trying to guess where the asset going, you are trying to guess what other people are going to do because what other people are going to do is what’s going to drive the price.
This is the core concept I wanted you to understand to begin the real game. I tried my best to explain these concepts in an easy manner. I hope this gave you some idea of what we are trying to accomplish. in the next article, we will look at ways to make money from markets. See you there.