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CFA Level I Exam · Portfolio Management: An Overview

Types of Investors and Their Needs for CFA Level I

Updated 7 October 2026 · Fact-checked

Each investor type has its own return objective, risk tolerance, time horizon, liquidity need and constraints. To solve a question, identify the investor, find the liabilities it must pay, then match the horizon, liquidity and risk ability. A bank needs liquidity, an endowment needs perpetual real growth, a defined benefit plan needs to fund promised pensions.

Understand Types of Investors and Their Needs

An investor's needs come from what the money is for. Start with the liabilities: what must be paid, when, and how certain the amounts are. Then ask how long the money can stay invested (time horizon) and how quickly cash may be needed (liquidity).

There are two broad groups. Individual investors invest to meet personal goals such as retirement, education or a home. Their needs vary with age, wealth, income and taxes. Institutional investors invest pooled money for others: pension plans, endowments, foundations, banks, insurers and sovereign wealth funds. Their needs are set by legal rules and by the liabilities they carry.

For each investor, think in terms of risk objective (ability and willingness to take risk), return objective, and the constraints: liquidity, horizon, taxes, legal and regulatory limits, and unique circumstances. Ability to take risk comes from facts such as long horizon and strong funding. Willingness is about attitude. If the two conflict, the lower one usually governs.

Now the main types. A defined benefit (DB) plan promises a set pension, so the sponsor carries the investment risk. It has long-dated liabilities, and its risk ability depends on funded status and the sponsor's financial strength. A defined contribution (DC) plan puts contributions into individual accounts, so the employee carries the investment risk and the plan has no promised payout.

Endowments (for example a university fund) and foundations usually have very long or perpetual horizons. They want to fund spending and keep purchasing power, so the return objective is often spending plus inflation plus costs. Foundations commonly must pay out a minimum share of assets each year, set by law. Banks fund themselves with deposits and lend, so they want a positive spread between asset yield and funding cost, with high liquidity and low risk. Insurers: life insurers have long liabilities and fairly predictable claims; non-life (property and casualty) insurers have shorter, less predictable claims, so they hold more liquid, lower-risk assets. Sovereign wealth funds invest state assets, such as commodity revenues or reserves; horizons are long, though stabilization funds need more liquidity.

Key formulas to remember

Endowment/foundation return objective
Required return ≈ spending rate + inflation + investment costs
This is a rule of thumb for preserving real value. Use it when the question asks for the return needed to sustain spending forever.
Funded status of a DB plan
Funded status = plan assets − present value of pension liabilities
A surplus means more ability to take risk. A deficit means less ability, especially if the sponsor is weak.
Bank profitability driver
Net interest spread = yield on assets − cost of funds
Banks need positive spread, so asset-liability matching and liquidity matter.
Risk tolerance rule
Overall risk tolerance = lower of ability and willingness
If ability is low but willingness is high, treat risk tolerance as below average.

How to solve Types of Investors and Their Needs questions

Use this method for any question that describes an investor and asks about objectives, constraints or suitable assets.

  1. 1Identify the investor type from the stem: individual, DB or DC plan, endowment, foundation, bank, insurer or sovereign wealth fund.
  2. 2Find the liabilities or spending needs: size, timing and certainty.
  3. 3Set the time horizon: long, perpetual, or short and uncertain.
  4. 4Judge liquidity needs: cash for withdrawals, claims, deposits or payouts.
  5. 5Assess risk ability from funding, horizon and sponsor strength, and risk willingness from stated attitudes. Take the lower.
  6. 6Check constraints: legal and regulatory rules, taxes, and unique circumstances such as ethical screens.
  7. 7Match to the three options, and eliminate any that conflict with liquidity, horizon or risk limits.

Quickest way: Liability-first elimination

When to use it: Use for standalone MCQs that ask which investor has a given need or which statement is correct.

  1. Underline the investor type and one key fact (horizon, liabilities, payout rule).
  2. Recall the one-line profile: DB = promised pension; DC = employee bears risk; endowment = perpetual, inflation-adjusted spending; bank = liquidity and spread; non-life insurer = short, uncertain claims.
  3. Cross out options that give the wrong party the risk or the wrong horizon.
  4. Pick the option that fits the liabilities, then move on.

Common mistakes in Types of Investors and Their Needs

  • Saying the employee bears investment risk in a DB plan.

    DB and DC are easy to mix up because both are workplace pensions.

    Fix: In a DB plan the sponsor carries the risk because the benefit is promised. In a DC plan the employee carries it.

  • Treating a foundation's or endowment's horizon as short because it makes annual payouts.

    Yearly spending is confused with the life of the institution.

    Fix: The institution is intended to last indefinitely, so the horizon is long even though some liquidity is needed for spending.

  • Giving a non-life insurer the same profile as a life insurer.

    Both are called insurers.

    Fix: Life claims are longer-dated and more predictable. Non-life claims are shorter and less predictable, so liquidity needs are higher.

  • Using willingness to take risk alone to set risk tolerance.

    Candidates read a confident client statement and stop.

    Fix: Compare ability and willingness and use the lower one.

  • Assuming a bank's main need is high return.

    Banks are thought of as profit-driven investors.

    Fix: A bank must meet deposit withdrawals and keep a positive spread. Liquidity and low risk come first.

  • Assuming every sovereign wealth fund has the same horizon.

    They are all described as long-term state funds.

    Fix: Check the fund's purpose. Stabilization funds need liquidity and shorter horizons; savings funds can take a long horizon.

Worked examples

Example 1

A university endowment spends 4% of assets a year, expects inflation of 2.5% and investment costs of 0.5%. Its horizon is perpetual. What is its approximate required return? A) 4.0% B) 6.0% C) 7.0%

Show the solution
  1. Use required return ≈ spending rate + inflation + costs.
  2. Add: 4.0% + 2.5% + 0.5% = 7.0%.
  3. The perpetual horizon means the real value of assets must be preserved, so all three parts are included.

Answer: C) 7.0%

Example 2

Which investor is most likely to hold a high proportion of liquid, lower-risk assets because its liabilities are short-term and uncertain in size? A) A defined benefit pension plan with young members B) A non-life insurer C) A perpetual endowment

Show the solution
  1. Look for short and uncertain liabilities.
  2. A DB plan with young members has long-dated liabilities, so it does not fit.
  3. A perpetual endowment has a long horizon, so it does not fit.
  4. A non-life insurer pays claims that are shorter-dated and hard to predict, so it needs liquidity.

Answer: B) A non-life insurer

Exam tips

  • Questions usually give a short profile and ask for the matching objective or constraint. Link each investor to its liabilities first.
  • Learn the DB versus DC risk-bearer contrast cold. It is a frequent trap.
  • For endowments and foundations, remember perpetual horizon, inflation-adjusted spending and, for foundations, legal minimum payouts.
  • With no penalty for wrong answers, always answer. Eliminate options that put the wrong horizon or liquidity on an investor, then choose.

Practice questions from Portfolio Management: An Overview

Types of Investors and Their Needs in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Types of Investors and Their Needs: frequently asked questions

What is the difference between a defined benefit and a defined contribution plan?

In a defined benefit plan the sponsor promises a pension and bears the investment risk. In a defined contribution plan the employer and employee pay into individual accounts, and the employee bears the investment risk. The final benefit depends on contributions and returns.

How do endowments and foundations differ?

Both usually have long or perpetual horizons and aim to preserve purchasing power while funding spending. Foundations often face a legal minimum annual payout. Endowments, such as university funds, set their own spending rules.

What are the main types of institutional investors?

They include pension plans, endowments, foundations, banks, insurers and sovereign wealth funds. Each has liabilities and a purpose that shape its return objective, risk tolerance, liquidity needs and constraints.

How do institutional and individual investors differ?

Individuals invest for personal goals and are shaped by age, wealth, income and taxes. Institutions invest pooled assets against defined liabilities and are often bound by legal and regulatory rules. Institutions also usually have larger assets and formal governance.