View source for Finance:Proprietary trading

{{Short description|Practice of trading financial instruments using a firm's own money}}
'''Proprietary trading''' (also known as '''prop trading''') occurs when a [[Finance:Trader|trader]] trades [[Finance:Stock|stock]]s, [[Finance:Bond|bond]]s, [[Finance:Currency|currencies]], [[Finance:Commodity|commodities]], their [[Finance:Derivative|derivatives]], or other financial instruments with the firm's own money (instead of using depositors' money) to make a profit for itself.<ref name=Guardian>{{cite news |url=https://www.theguardian.com/business/2010/jan/21/proprietary-trading-wall-street-banks |title=What is 'proprietary trading'? |newspaper={{wipe|The Guardian}} |author=Heather Stewart |date=21 January 2010}}</ref> Proprietary trading can create potential conflicts of interest such as [[Insider trading|insider trading]] and [[Finance:Front running|front running]].<ref name=":0" /><ref name=":1" /><ref name=":2" />

Proprietary traders may use a variety of strategies such as [[Finance:Index arbitrage|index arbitrage]], [[Finance:Statistical arbitrage|statistical arbitrage]], [[Finance:Risk arbitrage|merger arbitrage]], [[Finance:Fundamental analysis|fundamental analysis]], [[Finance:Volatility arbitrage|volatility arbitrage]], or [[Finance:Global macro|global macro]] trading, much like a hedge fund.<ref>{{cite web |url=https://www.daytradetheworld.com/trading-blog/proprietary-trading-your-complete-guide/ |title=Proprietary Trading: What It Is & Related Trading Firms |date=28 September 2020 |publisher=DayTradeTheWorld}}</ref> Many reporters and analysts believe that large banks purposely leave ambiguous the proportion of proprietary versus non-proprietary trading, because it is felt that proprietary trading is riskier and results in more [[Finance:Volatility|volatile]] profits.

==Arbitrage==
One of the main strategies of trading, traditionally associated with banks, is [[Arbitrage|arbitrage]]. In the most basic sense, arbitrage is defined as taking advantage of a price discrepancy through the purchase or sale of certain combinations of securities to lock in a market-neutral profit. The trade will remain subject to various non-market risks, such as settlement risk and other operational risks. Investment banks, which are often active in many markets around the world, constantly watch for arbitrage opportunities.

One of the more notable areas of arbitrage, called risk arbitrage or merger arbitrage, evolved in the 1980s. When a company plans to buy another company, often the share price of the buyer falls (because the buyer will have to pay money to buy the other company) and the share price of the purchased company rises (because the buyer usually buys those shares at a price higher than the current price). When an investment bank believes a buyout is imminent, it often sells short the shares of the buyer (betting that the price will go down) and buys the shares of the company being acquired (betting the price will go up).

==Conflicts of interest==
There are a number of ways in which proprietary trading can create conflicts of interest between a bank's interests and those of its customers.<ref name=":0">{{cite magazine |url=http://www.complianceweek.com/blogs/harvey-l-pitt/conflict-of-interest-lessons-from-financial-services |title=Conflict of Interest Lessons From Financial Services |first=Harvey L. |last=Pitt |magazine=Compliance Week |date=2005-02-22 |access-date=2014-10-11 |archive-url=https://web.archive.org/web/20141017011815/http://www.complianceweek.com/blogs/harvey-l-pitt/conflict-of-interest-lessons-from-financial-services |archive-date=2014-10-17 |url-status=dead}}</ref>

As investment banks are key figures in mergers and acquisitions, it is possible (though prohibited) for traders to use inside information to engage in merger arbitrage. Investment banks are required to have a [[Chinese wall]] separating their trading and investment banking divisions; however, in recent years, especially since the [[Company:Enron scandal|Enron scandal]], these have come under closer scrutiny. One example of an alleged conflict of interest can be found in charges brought by the Australian Securities & Investments Commission against [[Company:Citigroup|Citigroup]] in 2007.<ref name=":1">{{cite news |url=https://www.nytimes.com/2007/03/23/business/worldbusiness/23iht-citigroup.5002690.html |title=Citigroup challenges Australian commission's conflict of interest ruling |first=Tim |last=Johnston |newspaper={{wipe|New York Times}} |date=2007-03-23 |access-date=2014-10-11}}</ref>

Another source of conflicts of interest is potential [[Finance:Front running|front running]], in which case the buy-side clients suffer from significantly higher trading costs. Front running per se is illegal, but there are circumstances under which a broker that operates a proprietary trading desk gains advantage over its clients based on inferences from [[Finance:Order book|order book]] data.<ref name=":2">{{Cite web |title=A Front-Running Smile? |author= |work=Traders Magazine |date=26 May 2005 |access-date=18 January 2022 |url=https://www.tradersmagazine.com/news/a-front-running-smile/ |quote=A broker who operates a proprietary trading desk can significantly increase the buyside's implicit trading costs. In the past couple of years, some investment banks' quarterly gains from principal trading alone have approached $1 billion. In certain cases, the assets of individual bank's hedge funds have exceeded the combined assets of all of the bank's customers.}}</ref>

== Famous traders ==
Famous proprietary traders have included Ivan Boesky, Steven A. Cohen, John Meriwether, Daniel Och, and Boaz Weinstein. Some of the investment banks most historically associated with trading were Salomon Brothers and [[Company:Drexel Burnham Lambert|Drexel Burnham Lambert]]. Trader Nick Leeson took down [[Company:Barings Bank|Barings Bank]] with unauthorized proprietary positions. UBS trader Kweku Adoboli lost $2.3 billion of the bank's money and was convicted for his actions.<ref>{{cite web |title=Kweku Adoboli jailed for fraud over £1.4bn UBS loss |url=Kweku Adoboli jailed for fraud over £1.4bn UBS loss |website=bbc}}</ref><ref>{{cite news |last1=dzawu |first1=moses |title=After Losing $2.3 Billion at UBS He Now Seeks Redemption in Ghanaian Bonds |url=https://www.bloomberg.com/news/articles/2020-01-22/fallen-ubs-trader-adoboli-seeks-redemption-in-bond-market-deals |newspaper=Bloomberg.com |date=22 January 2020}}</ref><ref>{{cite news |last1=dalton |first1=samantha |title=Kweku Adoboli: From 'rising star' to rogue trader |work=BBC News |date=20 November 2012 |url=https://www.bbc.com/news/uk-19660659}}</ref>

Armin S, a German private trader, sued [[Company:BNP Paribas|BNP Paribas]] for 152m EUR because they sold to him [[Finance:Structured product|structured product]]s for 108 EUR each which were worth 54 00 EUR.<ref>{{Cite web |url=https://www.ft.com/content/a9e8b574-22f0-11e8-ae48-60d3531b7d11 |title=BNP failed to book traders in Germany for a week |last=Binham |first=Caroline |date=2018-12-20 |website=Financial Times}}</ref>

== Notable proprietary trading firms ==
{{div col|colwidth=20em}}
* Akuna Capital
* Citadel Securities
* DRW Trading Group
* Flow Traders
* Global Trading Systems
* Headlands Technologies
* Hudson River Trading
* IMC Financial Markets
* Jane Street Capital 
* Jump Trading
* Maven Securities
* Optiver
* Quantlab
* Radix Trading
* Susquehanna International Group
* Tibra Capital
* Tower Research
* Tradebot
* TransMarket Group
* Virtu Financial
* XTX Markets
{{div col end}}

==See also==
* [[Finance:Flow trading|Flow trading]]

== References ==
{{Reflist}}

{{Hedge funds}}
{{stock market}}

[[Category:Financial markets]]

{{Sourceattribution|Proprietary trading}}