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Proprietary trading (also "prop trading" or PPT) occurs when a firm trades stocks, bonds, currencies, commodities, their derivatives, or other financial instruments, with the firm's own money as opposed to its customers' money, so as to make a profit for itself. They may use a variety of strategies such as index arbitrage, statistical arbitrage, merger arbitrage, fundamental analysis, volatility arbitrage or global macro trading, much like a hedge fund. Many reporters and analysts believe that large banks purposely leave ambiguous the amount of non-proprietary trading they do versus the amount of proprietary trading they do, because it is felt that proprietary trading is riskier and results in more volatile profits.
Contents
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1 The relationships between trading and banking 2 Arbitrage 3 Conflicts of interest in proprietary trading 4 Famous trading banks and traders 5 Regulatory Overhaul in the United States 6 References 7 External links
and the late Merrill Lynch are known to earn a significant portion of their quarterly and annual profits through proprietary trading efforts.[citation needed] The proprietary trading desk is kept separate, by law, from knowledge about customer flow, so they cannot engage in the business of front-running a customer's order. There often exists confusion between proprietary positions held by market-making desks (sometimes referred to as warehoused risk) and desks specifically assigned the task of proprietary trading.
Arbitrage
One of the main strategies of trading, traditionally associated with banks, is arbitrage. In the most basic sense, arbitrage is defined as taking advantage of a price discrepancy through the purchase/sale of certain combinations of securities to lock in a profit. Many people confuse arbitrage with what is essentially a normal investment. The difference between arbitrage and a typical investment is the amount of reward: the risk in what is known as arbitrage today (to distinguish it from theoretical arbitrage, which effectively does not exist) is market neutral. From the second the trade is executed, a profit is locked in. 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, evolved in the 1980s. When a company plans to buy another company, often the price of a share in the capital of the buyer falls (because the buyer will have to pay money to buy the other company) and the price of a share in the capital 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).
References
1. ^ "Conflict of Interest Lessons From Financial Services". 2005-02-22. http://www.complianceweek.com/article/1562/conflict-of-interest-lessons-from-financial-services. Retrieved 2009-01-13. 2. ^ "Citigroup challenges Australian commission's conflict of interest ruling". http://www.iht.com/articles/2007/03/23/business/citigroup.php. 3. ^ "Obama hammers Wall Street banks". 2010-01-21. http://www.ft.com/cms/s/0/44f593ee-06a7-11dfb426-00144feabdc0.html.
External links
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Investors
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Hedge funds Hedge fund managers Alternative investment firms Retrieved from "http://en.wikipedia.org/wiki/Proprietary_trading" Categories: Financial markets Proprietary trading is a special investment program used for a large number of arbitrage strategies. This form of business serves to be a make up tool in the hands of the companies to nullify the losses incurred in day to day business. This does not involve the clients and is specially meant for the investors. The investments for this form of business are mostly done by the investment banks and hedge firms. As suggested earlier, a striking feature that distinguishes this type from the other online stock trading techniques is that fact that this type does not involve the client and hence does not require brokers who serve to a key necessity for the other types. Proprietary trading techniques involve arbitrage. Statistical, merger arbitrage and volatility are some of the popular categories of trading which falls under this domain. Here, the business is mostly done on a periodic basis rather than a daily or weekly duration that serves to be the more preferred scheme for the other types and categories. As it involves lesser number of operators, the dealings are generally done directly from the institutional computers to the placement floors. Rules prohibit brokers from accessing, using and sharing any form of information provided by the clients for its own profits and interest. However, in reality it has been commonly seen that many companies care a little for these rules. Proprietary trading procedure is a recent development that has been implemented to safeguard the interests of the clients and at the same time offer an alternative to the companies to prevent them from using user data for their benefit. Introduction of this business scheme have turned out to more than useful for the firms that have implemented the same. Recent studies have further revealed that for most firms that have used this strategy, the profit margin has gone significantly higher. Furthermore, the key fact to notice is that the profits have been incurred in a manner involving a minimal risk factor. Its up roaring success have forced a lot others to implement this business strategy.