Proprietary trading firms, or prop firms, allow professional traders to prove their expertise using a demo account as they are assigned a trading task which includes a profit target and drawdown limitations. If the trader successfully completes the audition, the prop firm will proceed with their funding. 

Typically, funding tiers among prop firms ranges between $10,000 and $300,000, with some prop firms offering scaling options into the millions. 

Here’s how a typical prop firm works:

• Audition & Funding: Traders go through an audition process where they must prove their ability to trade in accordance with the limitations and targets set by the prop firm
• Risk Management: Prop firms employ sophisticated risk management strategies to control and mitigate potential losses. This includes setting limits on individual trades, overall exposure, and employing risk monitoring tools
• Trading Platforms: Many prop trading firms offer forex, futures, and indices to their clients, who can use trading platforms such as MetaTrader 4 to execute their trades
• Compensation: Traders at prop firms are typically compensated based on the profits they generate for the firm. This can include a performance-based bonus or a share of the profits

Prop Firm Example: FTMO

To better understand how prop firms work, let’s look at an example of one of the top-rated prop firms - FTMO. Founded in 2015 in the Czech Republic, FTMO offers various account tiers, which range from $10,000 to $200,000, with the ability to scale up the account to as much as $2 million. 

FTMO offers MetaTrader 4 to its clients who can trade forex, commodities, indices, and crypto with the firm. The firm also allows traders to use different currencies for their accounts. 

When traders pass the audition at FTMO, they can choose the funding level of their choice and start trading. The profit target at the firm is 10% for funded traders, which means that for a trader that has obtained a funded account of $10,000, their profit target would be $1,000. 

FTMO allows its clients to keep 90% of the profits they generate.

Prop trading has its fair share of advantages and disadvantages and traders should consider these factors carefully to decide whether applying for a prop firm is the right course of action for their financial objectives.

Pros

• Performance-based Compensation: The better a trader performs, the more profit they can generate, as most prop firms split 80-90% of the profits with their traders 
• Increased Buying Power: Funded traders enjoy increased buying power which may have been unaffordable for them if they traded with their own capital 
• Profit Potential: Proprietary trading offers the potential for significant profits. Since prop traders are using the firm's capital, successful trading strategies can lead to substantial financial gains for both the trader and the firm

Cons

• Capital Constraints: Prop firms uphold constraints on their funded accounts and have a maximum funding limit that cannot be breached regardless of the trader’s performance
• Trading Limitations: traders that sign up at prop firms have to adhere to the trading limitations set by the prop firm, which can be challenging
• Monthly Fees: Many prop firms charge monthly fees for their funded accounts, which can put pressure on traders to generate higher returns 

• A proprietary trading firm, or prop firm, is a financial institution that funds traders using its own capital and allows them to trade in exchange for a profit share 
• Traders at prop firms have to adhere to the limitations and trading objectives set out by the prop firm
• The prop trading market is subject to little regulation, which allows major prop firms to operate globally 
• Many prop firms charge monthly fees for their funded accounts and allow traders to gradually scale up their account balance