Retail Trading vs. Prop Trading

Advantages and Disadvantages

Those starting out in financial markets for the first time may find it difficult to choose between retail or proprietary trading. There are benefits and drawbacks to both, and some traders will be better suited to one than the other. In this guide we’ll take you through retail versus proprietary trading, to help you decide which is more likely to suit your trading style. We’ll also discuss whether it’s possible to combine the two to further boost your performance.

What is Prop Trading?

There are different ways prop trading can work, which are worth knowing about if you’re interested in joining the industry.

The most enticing opportunities don’t require any initial investment from the trader: all you have to pay for is the training program, enabling you to demonstrate you have the abilities needed to succeed in financial markets. For this reason, prop trading is a great move for aspiring traders without much capital. You’re given a platform where you can learn, try out your strategies and hone your skills, and end up as a professional, all at minimal cost.

Other prop trading firms ask the trader to supply all or a part of the initial investment. In these cases, you get access to a platform and trading tools, and retain a substantial share of the profits you generate. But do be aware that this share will generally just be that: you won’t get to keep 100% of your profits.

A third option is a hybrid model, in which the prop trading firm and the trader participate evenly, thereby incentivising more efficient use of capital.

How can you Become a Prop Trader?

There are different ways prop trading can work, which are worth knowing about if you’re interested in joining the industry.

The most enticing opportunities don’t require any initial investment from the trader: all you have to pay for is the training program, enabling you to demonstrate you have the abilities needed to succeed in financial markets. For this reason, prop trading is a great move for aspiring traders without much capital. You’re given a platform where you can learn, try out your strategies and hone your skills, and end up as a professional, all at minimal cost.

Other prop trading firms ask the trader to supply all or a part of the initial investment. In these cases, you get access to a platform and trading tools, and retain a substantial share of the profits you generate. But do be aware that this share will generally just be that: you won’t get to keep 100% of your profits.

A third option is a hybrid model, in which the prop trading firm and the trader participate evenly, thereby incentivising more efficient use of capital.

Advantages of Prop Trading

To help you better understand the premise of prop trading and how it can boost your trading career, we outline its main benefits below:

Lower risk

Depending on which model you choose, using a prop trading account can mean you don’t have to risk any of your personal capital, thereby reducing your potential losses. And you still get to retain a substantial portion of your profits.

Even models which require a small initial investment from the trader set you up in a better position than were you to begin trading independently.

More purchasing power and more advanced strategies

The capital in your prop trading account is generally insured by the firm, and you will be trading with substantially more money than you could effectively insure independently. This enables you to employ riskier trading strategies and open more prominent positions, meaning you can make higher profits. As a result of your higher purchasing power, you can also apply more complex strategies, including all types of arbitrage-based market moves.

Good prospects for а full-time career

Prop trading is a highly desirable career choice, as on top of its incredibly lucrative nature, prop trading accounts also offer a flexible and efficient way to way to enter the market.

Funded trader programs enable you to trade at your own pace, when it suits you, for as long as it takes to feel confident in your skills. At this point, you can take the exam or evaluation and qualify for funding at a prop trading firm, getting started with your career without having to leave your house!

More favourable trading costs

Brokerage service providers can charge significant fees to independent traders for some asset classes. In contrast, prop trading costs are much lower because of the scale on which you’re trading. Institutional traders trade at a significantly higher volume, and therefore benefit from lower fees. This advantage is particularly key for speculators and active day traders placing several trades per trading session. Trading independently in this case would lead to excruciatingly high brokerage fees.

Access to professional tools and platforms

Retail traders can pay huge sums to access professional trading platforms and the necessary attendant tools and resources like analytical software and data, whereas prop traders don’t face this problem. Prop trading firms usually cover all such expenses, and the trader’s sole responsibility it to generate profits.

Disadvantages of Prop Trading

Despite all these advantages, prop trading isn’t perfect – after all, what is? Next, we look into some of the key drawbacks to this kind of trading.

Strict trading rules

Prop trading can be usefully flexible, but that doesn’t mean you can trade rule-free with another party’s capital. Prop trading firms will stipulate certain criteria, like profit targets or trading consistency, which you have to meet in order to keep trading on their behalf. After all, you’re being funded to make profits. For those lacking in administrative or logistical abilities, the exacting regulations that can be a feature of prop trading may mean it’s not for you.

It can be too stressful

On a similar note, traders without experience in meeting profit targets and the attendant pressure this brings can find they don’t have the requisite focus and commitment to cope with it. When trading on somebody else’s behalf, giving in to your emotions may lose you your job. 

It might limit your investable universe

Lots of prop firms focus on a specific asset class, such as stocks, futures, or forex. As a result, you won’t necessarily be able to expand your strategy across a range of markets. This can be a plus for those starting out in trading, as their attention is not split across different investments, but those with more experience may find it restrictive.

What is Retail Trading?

Retail trading refers to the activities of independent, non-professional traders: trading using their own capital via personal accounts through a brokerage, which can be online. They can trade all instrument types, including bonds, stocks, mutual funds, ETFs, cryptocurrencies, and forex.

Typically, this trading is with modest amounts, and doesn’t generate substantial daily trading volumes on an individual basis.

As recently as a few decades ago, retail trading wasn’t possible, but the development of the necessary market infrastructure and the advent of brokerage accounts without fees and low initial capital requirements means that nowadays anyone can start trading.

In fact, it is incredibly popular, as traders can access a range of complimentary resources, financial data and educational programs that just a few years ago were almost impossible to find. With these tools, making your first steps towards a trading career is entirely doable.

Advantages of Retail Trading

Why has retail trading’s popularity taken off in the last few years? And how will you benefit if you join the growing ranks of independent traders?

You are your own boss

Retail trading enables you to trade any instrument you like, whenever you like. You are free from profit targets and trading frequency requirements, and as a result can choose the position sizes that suit you. Furthermore, you can monitor markets around the clock, decide on appropriate trading strategies, and so on.

If you wake up one day and don’t feel up for trading, there’s no need to, and you won’t have to report to anybody. You can also use different trading platforms, giving you a choice as to which trading tools you find most efficient and convenient. 

It’s easier

The prop trading environment is one of high pressure, which can lead traders without the requisite risk management abilities and emotional discipline to rush trades and therefore make substantial losses. In contrast, retail traders have no one to answer to but themselves, with no requirement to trade certain instruments or maintain a set profit/loss ratio. This can really reduce stress – crucial for your long-term health. 

Suitable for anybody

The wealth of free training resources and commission-free trading platforms out there mean that anybody can become a retail a trader. Even if you have no experience whatsoever, it’s possible to learn what’s needed to set off on the path towards successful retail trading.

You don’t even need to invest in pricey trading setups – you can trade a comprehensive range of instruments from your mobile device. While this won’t necessarily turn you into a trading expert overnight or earn you the reputation of a seasoned trader among fellow traders, it will mean you aren’t tied to specific trading platforms. If a relaxed approach seems appealing, and you don’t intend to rely on trading as your primary source of income, trading on your phone is a good option to consider.

Disadvantages of Retail Trading

There are, of course, disadvantages to retail trading too. Keep reading in order to be able to make a well-informed decision about which trading career will best suit your requirements and abilities. 

Your capital is at risk

The most significant disadvantage of retail trading is that you use your personal capital, so there is nobody to offset your losses. This does mean that you don’t have to share your profits, but the most important objective for new traders is pross minimisation. Profit maximisation can come later.

Many beginners lose all their starting capital in just their first few trades. To steer clear of this possibility, it’s essential to start trading with a demo account. You don’t want your retail trading career to end before it has a chance to get started!

Limited trading opportunities and a lower purchasing power

Retail traders may come across challenges when it comes to trading certain instruments, such as futures or alternative investment classes. The reasons for this can be diverse, but primarily stem from broker-specific policies, regulatory constraints, or inadequate capital.

When trading independently, it can be difficult to secure the same level of leverage that prop trading accounts supply. Trading with a relatively small capital base also limits your potential profits, meaning it will take longer to accumulate a stable and sufficient capital amount necessary for trading on a larger scale and growing your portfolio. 

Higher trading costs

Commission-free brokers exist, but they generally prioritise long-term investors, and thus charge fees to retail traders and speculators. These include fees for transfers, announcing maintenance costs, and commissions. If your capital is limited, such costs can be substantial, especially when you consider fees for other necessary resources like data service providers, research platforms, market journal software and advanced charting tools. These tools are crucial to success, so you can’t skimp on them.

Retail Trading vs. Prop Trading

So, we’ve established the key advantages and disadvantages to both retail trading and prop trading, but there are a few more aspects to consider.

Το begin with, you need to take into account your profile and objectives when deciding which industry is likely to suit you better.

Newer traders without significant experience or capital will most likely want to opt for prop trading. A training program will equip you with the requisite skills, and when you’ve completed this you’ll be eligible to receive funding.

Traders with more experience, and more capital, may want the flexibility you get from retail trading. The capital you trade with is your own, so you have the freedom to choose how and when you trade.

In summary, retail trading is generally more expensive and more complex, so you’re more likely to get off to a good start with prop trading. Ultimately, the style of trading you choose is dependent on your long-term prospects and objectives. Successful traders who can make the capital required to effectively navigate the markets on their own often transition to independent trading at some stage in their trading journey.

Fees and Commissions

It’s also important to examine the differences in commissions and fees between the two trading types.

Retail traders normally get to choose from a range of commission-fee structures, according to which brokerage service provider they opt to work with. Some provide completely free trading opportunities, but others can charge as much as $10 per trade for certain instruments.

The heightened competition in this field has led to a substantial reduction in trading costs in the past few years, but ultimately the cost still hinges on what you intend to trade, where and how often. It’s important to familiarise yourself with the minutiae of your broker’s fee policy, not just their trading commissions. Inactivity fees and account transfer fees can add up if you’re not aware of them.

Prop traders seldom have to think about trading costs, as they tend to be more competitively priced. The substantial trading volumes typically generated by prop trading firms mean that fees are generally very low.

Leverage in Retail Trading vs. Prop Trading

This one is clear cut. Prop trading allows traders to take advantage of often significant leverage levels; retail trading doesn’t.

A retail trader who wants to use leverage needs to adhere to a range of securities regulations and margin requirements. For instance, many brokerages will require you to execute more than three-day trades in a rolling five-day period and have a minimum of $25,000 in equity before you can use leverage.

In contrast, prop traders have the flexibility to employ leverage based on the amount of risk capital in their accounts. The precise leverage levels are determined by the prop firm’s policies – which often take into account how experienced the trader is. As a result, prop traders wouldn’t suffer from the same $25,000 minimum equity requirement commonly associated with retail trading accounts. This grants prop traders higher purchasing power and enables them to make more substantial profits.

Can you Do Both at the Same Time?

You may be wondering if it’s possible to combine prop and retail trading and get the best of both worlds. Although it’s entirely possible to mix the two approaches, it’s important to recognise this won’t be a shortcut to easy riches.

If you decide you combine the two, it’s likely you will be more engaged in the prop trading side of things. In such a scenario, retail trading would be a supplementary activity, complementing the prop trading. This is perfectly fine.

Do be aware that this combination may work best when both trading types revolve around similar trading strategies and markets. For instance, if you’re trading futures on margin as a prop trader and trading biotech stocks as a retail trader at the same time, it could demand an overwhelming level of focus and commitment. The ongoing effort, research and abilities required to identify opportunities in both markets might be too demanding for long-term investing. If your prop and retail trading activities vary significantly, it may be challenging to succeed in either area.

This doesn’t mean that retail and prop trading can’t happily coexist; you just need to make sure they are properly integrated to elevate your trading to a whole new level.

How Prop Trading Can Help You When Retail Trading

The most effective approach to combing prop and retail trading is to use prop trading opportunities, like a funded trader program, to hone your abilities and start generating profit without putting your personal capital at risk.

Then, as your proficiency and market understanding increases, you can apply your knowledge and experience to your retail trading. The blend of the two trading approaches provides a safety net, and gives you access to resources that will boost your career as an independent trader. You don’t have to learn by trial and error, using your own capital, but can instead make and learn from mistakes in your funded trader program. This will serve as a gateway to the world of prop trading, allowing you to transition to independent trading once you’ve gained enough confidence.

Combining the two approaches can transform you into a more skilled and self-assured trader, while also increasing your returns and reducing your risks.

What Are the Benefits of Prop Trading Over Retail Trading?

The most significant advantage prop trading has over retail trading is how easy it is to get started, along with the fact that you can generate profits without putting your personal capital at risk. You may not even need to put down much money to begin. Prop traders will also have higher purchasing power and easier and cheaper access to useful tools and financial instruments than retail traders, and with this the ability to apply more sophisticated trading strategies.

Furthermore, prop trading provides carefully designed, market-proven training, equipping traders with the necessary knowledge and skills to trade successfully. The opportunity to communicate with fellow traders and industry professionals also helps you to raise your game.

For less experienced traders, another notable benefit of prop trading as opposed to retail trading is the calmer trading environment. It’s a markedly less stressful way to learn your personal traits as a trader, such as biases, emotional tendencies, and risk tolerance. Trying to understand and manage these aspects of your character within the context of retail trading can cost.

Finally, using your own capital to trade is thought to be one of the least efficient ways to start trading, due to capital and regulatory restrictions. If you can overcome these challenges by starting as a prop trader, it’s the obvious choice.

Conclusion

New traders generally have as little as $2,000 to $5,000 in starting capital. When taking into account trading costs and commission fees, these amounts are likely insufficient for actual trading activities. Such limited funds also restrict your purchasing power and substantially reduce your capacity to withstand losses. This means you may have to adopt a more conservative risk management strategy, limiting how quickly you can grow your portfolio.

For beginners aspiring to make a living from trading, prop trading is probably the way to go. As you grasp the intricacies of market theory and establish yourself as a successful prop trader, your confidence will grow, and this will translate into greater success as a retail trader if you choose to transition further down the road.