Yes, you pay interest on the leveraged money you are holding overnight. But the interest is peanuts compared to the haircut fee, which is what the firm charges you as a "risk fee" or something like that. It usually kicks in when you get leveraged greater than 6:1, and I think Bright charges 15% on that amount. For example, if you have $25k in your account and hold $1M in positions, 6:1 leverage is $150k. You'd pay 15% interest on the other $850k for haircut, plus the interest on the whole $975k (where I trade, that rate is currently 3.1%). A good firm will give you a credit for short positions which will somewhat offset the interest you pay, but it all counts towards haircut. So to illustrate: 3% on $975k= 29,250/yr. 15% on $850k= 127,500/yr. 156,750/12= about $13k/month to hold a million dollars every day with a $25k account. Pretty good deal for the house. Haircut rates are a negotiable item at most places, and some will not charge it if you are 100% hedged with something like a convertible or options.
Let's take this further. Say you earn 30% a year on the $1 million. That' $300K of trading gains, less $127.5K of carrying costs. That's a profit of roughtly $170K that you keep. You bear all the downside risk. Losing your initial $25K deposit on a $1 million account wouldn't be too difficult I think. On the other hand, let's say you have a $1 million hedge fund. to keep the math simple, let's say there are no additional cost to running the hedge fund. You make 30%, or $300K of gains for the year, and you keep 20% of it as your performance fee. That's $60K for you. You also charge 1% fee per year, which would be roughly $10K. All together, you earn $70K for your efforts, but you have no downside risk. So do you take $70K with no downside risk, or $170K with significant downside risk. If you are able to scale up your hedge fund to $3m or more, clearly a hedge fund would be a better deal than prop tradin from a reward to risk perspective. Of course, the fixed costs in your hedge fund, which I assume to be zero here, would require a larger asset base in order to cover those fixed costs. There's still some level of assets, under a hedge fund, that would be more attractive than prop trading. What do you think of my back of the envelope calculations -- mmm
What is this downside risk you are referring to? I think you have it backwards. With the hedge fund, you have all the downside risk. The reason guys trade prop is that they can go in the hole for 50k, 100k, even a million dollars and it's not their money. That's probably the biggest reasons why guys go prop. Sure you put up 25k, to trade a million dollars, but your risk is limited to 25k, the firm's risk in unlimited. Trust me guys, if you have to choose between prop and hedge fund, I would go prop. Besides a prop firm won't call you everyday asking why you are down 1% for the month and what you are going to do about it. Also, something else you might want to consider, your investors can file a grievance with you that will be on your record for life and it may not even be your fault. They might think you are skimming off the top and laundering money to the cayman islands. All they have to do is get a lawyer and go after you. And they will, especially if you are down money. They will either ask for the money back through extortion or threaten to shut you down. Do you guys really want this? Seriously man, prop gives you no hassles. Think about this clearly before you do anything stupid.
I was referring to the risk of losing your 25K. If you have $1m due to borrowing, as opposed to $1m from client assets, you are more likely to lose your $25K at a prop firm than at a hedge fund. If you drop 30% at a prop firm, with $1m of leverage, your $25K is history. If you drop 30% at a hedge fund, you lose nothing except 30% of your investment in your own hedge fund, whatever that amount may be. If you make nothing from your trading, you'll still collect a mgmt fee from your hedge fund, while at the prop desk you'll incur your loan charges. With a large enough asset base, a hedge fund still appears to be more attractive than a prop desk, in my opinion. -- MMM
OK, I'm not quite sure you understand how prop firms work, or at least some, not all. Yeah you could lose your 25k, but most guys can still trade. Like I said, you could lose 200k and in some cases still trade. If you lose 30% in your hedge fund, I hate to say this, but your done. I'm dead serious. As a new fund, you are done. Now older more established funds can lose 30%, maybe even 50%, but that's after they have a track record. If you have a new fund, and drop 30% anytime that first year, sure you may only lose 30% of what you put in, but 99% of the investors are going to pull their money out and you will be left with nothing, so actually the downside is pretty bad. Where as with a prop firm, you could probably trade in the hole for a year and even then they still won't give you shit. Granted they will cut back on your size or haircut, but still not a bad deal. Seriously man, do your homework and due diligence and think this through. And good luck with what you decide.
There are many debatable issues with your points, but I'm not even going to start. Anyone serious enough to get this far into trading (as a profession) should do their homework and make the decision that is appropriate for them. I feel the path of greater chance for success would be the hedge fund route, but the more people you convince otherwise is less competition for the rest of the industry - not that there isn't enough money to go around.
I did the prop thing using lots of leverage managing a book etc, it's alot of fun and a lot of work...if you don't think from day one you can make money ..then pass on this route. And further then you have no business doing a hedge fund either; if you cannot profit off your own work for yourself, then a hedge fund will be a nightmare. In the end it boils down to collect the fee and see what I can come up with, and be interesting at cocktail parties, status etc, all the BS, or personal freedom. Very simple really. And with 6000 hedge funds, good luck exploiting any edges for too long. If the hedge fund industry were a stock I'd be massively short. Best, David