A proprietary trading firm, commonly known as a “prop firm,” is a financial institution that engages in trading financial instruments with its own money rather than clients’ funds. Proprietary trading involves using the firm’s capital to make speculative investments in various financial markets, such as stocks, bonds, commodities, currencies, and derivatives. The goal is to generate profits for the firm.
Here’s how a typical prop firm works
Capital Investment — The prop firm provides the traders with a pool of capital to trade. This capital can be significant, allowing traders to take larger positions than they might be able to with their own funds.
Risk Management — Prop firms implement strict risk management procedures to control potential losses. This may involve setting daily or weekly loss limits for traders to ensure that the firm’s overall risk exposure is kept within acceptable levels.
Profit Sharing — Traders at prop firms often earn a share of the profits they generate. This can be a percentage of the profits, and in some cases, traders may receive a performance-based salary in addition to a share of the profits.
Technology and Infrastructure — Proprietary trading firms typically invest heavily in technology and infrastructure to provide their traders with the tools and resources needed for efficient and effective trading. This may include high-speed data feeds, advanced trading platforms, and direct market access.
Specialization — Some prop firms specialize in specific asset classes or trading strategies. For example, a firm might focus on equity trading, options trading, algorithmic trading, or high-frequency trading.
Well-known proprietary trading firms
Jane Street Capital: Known for its expertise in algorithmic trading, especially in the domain of high-frequency trading.
DRW (D.E. Shaw Research): Engages in proprietary trading across various asset classes, including equities, fixed income, and derivatives.
Optiver: Specializes in market making and high-frequency trading, particularly in options and futures markets.