Every business wants to make as much profit as possible, so the incentive is to utilize more capital. With the rise of high-end technologies for trading, traders are becoming more risk-takers. You know what they say about risk. Prop trading is one such risky bet but also has a very high potential return.
What is prop trading?
Prop trading, also known as proprietary trading, is where a firm or financial institution invests in global financial markets using its own capital or resources, including money, stocks, and equipment, instead of money invested by its clients and earning just a commission. Before investing, one has to do extensive research to determine what market one wants to invest in. This type of trading aims to increase the amount of profit the firm is going to make.
What are the factors to consider when setting up a prop trading office?
- Available trading technologies – before setting up your trading office, it is good to look into the available technologies and see which one works best for your trade. It is advisable to simulate a trade and test its technologies to have a practical view of how the different available software works. Choose the one that delivers the best results.
- Cost of operating legally – countries have different requirements for a prop trading office to be considered legal. Some require a license, others require a permit, and others both. Make sure you find out what is required in your country to avoid legal implications that could affect your business and you as an individual.
- Liquidity of your capital – the ease at which the capital you want to invest can be converted into money is yet another consideration. Liquidity will help you determine the price you are going to trade at and how you are going to trade.
- Taxes – make sure you find out the taxes that are required of you by your government. Find out if it is economically feasible to set up your office with the tax rates. If trading will bring you profits despite the taxes, then go ahead and start. If it doesn’t, then abort or review your trading plan.
How does one set up a prop trading office?
- Choose a technology – choose a trading technology that best works for you. You can outsource or get it custom-developed for your trading needs.
- Register the business – depending on what’s required in your country, register your business or get a business license/permit to operate the office legally.
- Find out the liquidity of your assets – this will help you make important decisions for your business, like what price to sell at or how to trade.
- Create your website – create your business website or outsource the service. Create one and incorporate it into the website if you need a CRM portal.
- Launch – once all these are done, you are good to go and can launch your prop trading office and start trading.
What are the benefits of prop trading?
- Increased profit – prop trading allows a trader/firm to earn the maximum benefit of the trade as they trade their own funds.
- A firm can keep a securities inventory for use in the future. This allows the trading firm to sell such securities, say to their clients, locking all the profit when the price goes up. Also, loaning out those securities to clients is another option.
- Lower trading costs – if a trader in a trading firm chooses a good trading model, they might not risk their capital. The firm cuts their risk to a minimum and allows them to retain high percentages of their profit.
- Access to high-end professional trading technologies – prop trading firms allows individual traders access to sophisticated trading software that is expensive for the traders to otherwise access outside the firm. The firms take care of the costs of accessing such technologies. These technologies allow traders to reach a wider market and automate their trading activities.
What are the disadvantages of prop trading?
- Limits the markets to invest in – most firms allow a trader to only trade one class of assets meaning one is limited and may not be in a position to expand their investment.
- Can be tense – prop trading could be tough, demanding, and stressful, especially for persons who are just starting out. It can put one’s emotions to the test as there is a lot of pressure in trying to meet targets and make maximum profits.
- Rigid rules of trade – when trading on behalf of another person or company, you can do just anything. You have some level of consistency to maintain in your trade as well as targets to reach in terms of profit. Organizational skills are key. Your trading activities are funded, and in return, you are expected to deliver to the best of your ability.
Conclusion
As much as prop trading can be stressful for beginners, it is a very good learning space for them. It requires proper planning while starting out so that one can enjoy all the benefits, i.e., increased profits, lower trading costs, and access to high-end trading technologies. Everything with advantages also has disadvantages. For prop trading, disadvantages include the stress that comes with it, limitations in markets to invest in as well as rigid trading rules.
There are many different strategies one can use in prop trading. Choosing one that works for you further protects you from losses. The fact that one can only invest in one market means that the chance of great loss is minimized. This makes prop trading a safe venture to invest in.
