In the world of finance, where capital rotates at the speed of light, and some players earn billions while others try to stay afloat, two terms are often heard: prop trading firms and hedge funds.

At first glance, they seem almost synonymous: both trade on the markets, use complex strategies, talk about profitability and risks. But if you dig deeper, it becomes clear that these are two completely different institutions that play by different rules and are focused on different audiences.

To avoid confusion in concepts, let's figure out how exactly prop trading companies and hedge funds work, what they have in common and what are the fundamental differences.

How Prop Trading Firms Work

Proprietary trading is a business model in which a company provides capital to traders and takes a share of their profits. The structure itself is as simple as it gets: the company has capital, a set of risk rules, and traders who try to grow that capital.

Classic prop companies until recently resembled old-school offices: rows of monitors, a team, and an exchange of strategies. Today, the situation has changed.

The main trend of recent years is online prop companies that allow trading from anywhere in the world. To get into such a company, you need to pass the so-called "challenge" or test: the trader pays an entry fee, trades within the established rules and must show results, staying within the loss limits. Successful completion opens access to a real account and a profit distribution system.

The peculiarity of prop companies is that they do not manage other people's money . It is their own capital, so in most countries they are not subject to strict regulations. This gives them great flexibility in who and how they allow to work.

What is a hedge fund

A hedge fund is a completely different level. Essentially, it is an investment pool where money is collected from wealthy clients – “accredited investors”. In the US, for example, to be considered as such, you must either have an annual income of $200,000, or capital of at least $1 million (not counting primary housing), or a professional license. In other countries, the criteria are different, but the essence is the same: only a person or organization with serious money and status can become a client of a hedge fund.

Hedge funds are subject to regulation. In America, for example, funds managing assets over $150 million must be registered with the SEC. This automatically imposes strict rules: reporting, compliance with anti-money laundering procedures, disclosure of information about positions when certain thresholds are reached.

Unlike a prop company, a hedge fund has a direct responsibility to investors . Its managers are required to protect clients' capital, report, and operate within the law.

What are the key differences?

To put it simply, prop companies are a place where a trader comes to “sell his skill” and trade with someone else’s capital, but without outside investors. Hedge funds are institutional structures where the main resource is other people’s money and the trust of clients.

A hedge fund is always a team of professionals: from financial analysts and programmers to portfolio managers and mathematicians. There is a hierarchy, offices, a strategic line. In a prop company, especially online, traders act on their own. They may never meet each other, use different approaches and focus only on meeting the conditions for profit and drawdown.

Hedge funds often work with exotic instruments - closed deals, private assets, derivatives developed for them. It is enough to recall the story of Michael Burry, who literally asked banks to create a new instrument to earn money on the mortgage crisis of 2008. Prop traders trade what is available on the retail market: currencies, stocks, futures, options.

Another important point is the remuneration structure. In a hedge fund, an investor pays a management fee (for example, 2% of capital) and a performance bonus (20% of profit). For a prop trader, everything is simpler: he only receives a percentage of the income. If you don’t earn anything, you don’t get anything.

Strategies: from intraday to global macro trends

And here the differences are especially noticeable. Prop companies most often limit traders on the time they hold positions. Many firms prohibit leaving trades overnight or on weekends, which means that the vast majority of strategies in the prop environment are short-term. These are scalping, intraday trading, news trading and technical analysis.

Hedge funds operate on a different horizon. They have the opportunity to build long-term portfolios, buy stakes in companies, and work with macroeconomics. They can wait until global events — from a change in political course to the start of a war — begin to affect quotes. The scale of capital and the time horizon allow them to influence the market, rather than simply react to it.

Regulation and risk management

The issue of regulation is one of the fundamental ones. Prop companies, as a rule, operate outside a strict legal framework, because they risk only their own capital. Their risk management system is built around internal rules: drawdown limits, maximum position size, prohibitions on certain types of transactions.

Hedge funds live in a different world. They are required to comply with regulators, implement AML/KYC procedures, and disclose information about their large shareholdings. And although they have more freedom in choosing their instruments, their activities are constantly under the control of supervisory authorities.

Who feels better in the market?

Both prop companies and hedge funds strive for the same goal: absolute return . That is, their job is to make a profit no matter where the S&P 500 is heading or what phase the global economy is in. If the market is down 10%, the excuse “we only fell 5%” won’t do anyone any good.

The reality is, of course, more complex. When the market is stagnant and volatility is low, both hedge funds and prop traders have a hard time. Conversely, periods of strong trends offer opportunities, and the results are impressive. But the risks are also growing: the example of funds that lost billions shorting GameStop shows that even professionals can fall into the trap of their own confidence.

Who can get into each of the structures?

Hedge funds don't hire just anyone. Education, experience, and reputation are valued here. CFA, diplomas from top universities, years of work in banks or investment companies - this is a standard set for a candidate.

Prop companies, on the contrary, are open to almost everyone. They don’t care what your education is or where you live. The only thing that matters is the ability to trade within the given rules. If you can pass the “challenge”, you will get access to capital. If you can’t, you will try again.

Prop companies and hedge funds are often put together, but in fact they are different worlds. The former are a platform for individuals who are ready to prove their skills and earn money on them here and now. The latter are complex financial institutions with huge capital, strict procedures and long-term strategies.

For a trader, the choice depends on the goals. If you want freedom, the ability to work from anywhere in the world and test your strategies in battle, a prop company is a great option. If the goal is a career in a professional environment, working with large sums and access to tools that are not available to retail, then the path lies in the direction of a hedge fund.

But there is something in common: both are valued for results. Titles, diplomas or promises are not important in the market. What is important is the ability to see opportunities, manage risk and stay in the game when others are out.



By Miles Harrington 
September 03, 2025

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