Demystifying Prop Trading vs. Market Making

In the world of trading, two strategies stand out: proprietary trading (prop trading) and market making. Let's break down the differences:

Proprietary Trading (Prop Trading):

Objective: Generate profits for the firm using its own capital.

Approach: Traders employ various strategies, such as directional trading or arbitrage, to capitalize on market inefficiencies.

Risk Profile: Higher risk, as firms use their capital, but often mitigated with robust risk management.

Market Making:

Objective: Provide liquidity to financial markets by quoting buy and sell prices for assets.

Approach: Market makers maintain bid-ask spreads, adjust quotes based on market conditions, and manage inventory to balance positions.

Risk Profile: Involves managing inventory and liquidity risk, but profits come from bid-ask spreads.

Prop trading aims to profit from market movements, while market making focuses on facilitating trading by providing liquidity. Understanding these distinctions is crucial for traders and investors navigating the financial markets.