Prop trading has gained quite a lot of popularity in recent years. More and more traders are thinking about passing prop challenges and officially becoming a prop trader. And you better know that it is quite worth the effort to successfully pass a prop challenge. Why? Because depending on the firm, you can get from 50% to 80% of the profits made through prop trading. In this article, we will take you through detailed steps on how you can pass a prop challenge and benefit from the prop trading.
Understanding the Prop Challenge
One of the most important considerations for taking the prop challenge is to consider how much of the profits you can take. As we said, some firms even offer up to 80% of the profits for the trader. But this should not be the only thing to consider.
Before everything else, you need to consider the challenge itself and understand it deeply. Depending on the firm, challenges can vary heavily. Remember, this is not just a simple trading test where you would trade once or twice. This is a detailed trading process where you must prove your skills and expertise as a trader.
There are different components that go into a prop challenge. Here, we will discuss them one by one:
a. Profit Target
Of course the most important component of any prop challenge is the amount of profits that you need to make, otherwise known as the profit target. So how much is the profit target? Usually it is between 5% to 10% of the starting balance.
For example, if they provide you with $50,000 as the starting capital, and the profit target is 10%, then you need to make $5,000 to win the challenge.
b. Drawdown Limits
Aside from making money, you also should avoid losing money! This is where we get to the drawdown limit. As the name suggests, a drawdown limit is the most amount of money that you could lose during the challenge.
The drawdown limit is usually defined in terms of percentages and it also ranges between 5% to 10%, but it might also be higher like 12%.
c. Trading Time Frame
Naturally, the challenge must have a time limit as well. You need to hit the goals defined for you within a certain period of time. So how much time do you get? Well, this is defined through the trading time frame. The time frame defined for the prop challenge is usually between 10 days to 60 days. This depends on the firm of course.
d. Trading Styles and Asset Classes
Last but definitely not least, we have the trading styles and also the asset classes. There are some prop firms that allow all forms of trading styles, such as scalping, swing trading, etc., for the prop challenge. But, there are also those firms that have limitations when it comes to the trading style.
Also, check out the asset classes that are subject to the test. This means you need to see which forex pair you must trade for the prop challenge.
Knowing this information can be extremely helpful because it allows you to prepare for them beforehand.
Preparing for the Prop Challenge
After gaining a full understanding of the prop challenge and the targets that you need to achieve, it is time to go into preparation mode. You need to do everything you can to be as prepared for the challenge as possible. Here, we want to talk about some of the most important factors to consider when you are getting prepared:
a. Know the Rules Inside and Out
As we already mentioned, the process of getting ready for the prop challenge begins with the deep understanding of the rules of the challenge, which include:
- The profit target
- The drawdown limits
- The trading style and asset classes allowed
- The trading hours and other restrictions (such as the maximum trades per day)
- The time frame for the challenge (how many days you have)
These rules can differ according to the specific prop firm.
b. Set Realistic Expectations
You need to prepare your mind for the challenge as well. This means getting the right mindset. For this purpose, you need to set realistic and reliable expectations for yourself as a trader.
Remember this:
The goal of the prop challenge is not to make as much money as possible in a short time period
The goal of the prop challenge is to prove that you are a reliable, skilled, and above all, a consistent trader.
c. Build a Trading Strategy
Now it is time to prepare a trading strategy according to the rules of the prop challenge. Keep in mind that this does not mean generating a whole new strategy!
That is not really necessary. You can make tweaks and adjustments in the trading strategy that you already use.
Here, we want to talk about a few of the factors that you can consider or rather reconsider in your trading strategy:
- Risk-Reward Ratio: consider a prop risk to reward ratio for your strategy. A good target for the prop challenge is 1:2 which means for every dollar that you risk you hope to gain 2 dollars in return.
- Trend Following or Range Trading: this is something that not a lot of traders think about. You need to decide whether your strategy is going to be mainly trend following or mainly for range trading.
Trend following strategies work better with volatile markets and range trading strategies work better in stable markets.
- Entry and Exit Criteria: this is very crucial to avoid unnecessary risks and also to maximize your profits. Have clear rules that define your entry and exit points based on technical analysis.
- Risk Management: any strategy needs prop risk management. But the trading strategy used for prop challenges must be modified and come with special risk management features. We will talk more about this factor in the next section.
d. Practice on a Demo Account
The last tip that we have for you in this section has to do with testing your strategy. This is something that you should already know as a professional trader.
No matter what strategy you choose, you must practice and test it fully on a demo account. This gives you the chance to adjust your trading strategy if necessary and once you begin the prop challenge, you have the perfect version of the strategy with you.
Risk Management: The Key to Success
You need to use strong risk management features. Shocking, right!? Well, of course everybody already knows this. But when it comes to prop challenges, you need to make special changes to your risk management approach that make it more suitable for the specific prop challenge that you are taking.
So how do you do that? These are a few of the areas to reconsider for your risk management approach in order to successfully pass a prop challenge:
a. Position Sizing
This is an extremely important factor to reconsider in your risk management. As you know, position sizing refers to the size of your positions, especially in relation to the account balance.
A general rule for position sizing is to take only 1% to 2% of your total account balance to each position. This also means you only risk 1% to 2% of the total account balance for each position.
But perhaps for the purposes of a prop challenge you can tighten the position size and set it at 1%. So, for example if the starting capital given to you is $50,000 then the size of your positions should not exceed $500.
b. Stop-Loss Orders
This is another feature of risk management that is of course used all the time. But when it comes to prop challenges, you definitely need to use tighter stop loss.
What does it mean to make your stop loss orders tighter? It means you need to make the limit for stop loss even smaller.
In this way, you stop loss orders, become more sensitive and activate sooner. This measure is more less aggressive and it can provide you with better risk management.
c. Stay Within the Drawdown Limits
The drawdown limit can end everything for you before the time limit is over. For example, even if you have 60 days for the challenge, if the drawdown limit is hit on day 5, it is all over for you. Maybe you could have won the challenge in the remaining 55 days. But now you do not even have the chance to try.
That should make it very clear just how important the drawdown limit is.
Always, always, always monitor drawdown carefully. Give yourself some space. It means losing some is okay. But if you are getting near to the percentage limit, that is when you should make changes before it is too late.
d. Daily Loss Limits
Set a daily limit for the total loss. A good rule is to consider from 2% to 5% of the total account balance as the daily loss limit. If you hit that limit, just stop trading for the day and continue from the next day.
Staying Consistent
The most important thing for a prop trader is to show that he or she is a consistent trader. Don’t be looking for an aggressive method of trading in order to make the most amount of money possible. Remember that there are clear targets defined for you. So, as long as you hit those targets you win the challenge.
While you should try for the targets, you need to show consistency. This is how you can do that:
a. Stick to Your Trading Plan
A professional trader is composed, calm, and consistent. Do not get emotional when things get rough and especially when you lose. Remain disciplined and stick to your trading plan.
b. Avoid Overtrading
Some prop firms actually set a rule to limit the number of trades per day. But even if there is no such rule by the firm, you should have this rule for yourself. Do NOT overtrade. Set a limit for the number of daily trades for yourself.
c. Review Your Trades
Another good rule that you should have is to have a review time for your trades. This can be, for example, at the end of each day when you would review all of your trades during that day and see if you need to make any changes for the next day.
Conclusion
It is of course difficult to pass a prop challenge. But the reason that prop challenges are difficult is that the advantages are simply amazing. As we mentioned in the beginning, depending on the prop firm, prop traders could get up to 80% of the profits that they make as a trader.
Given the rewards, you should do everything you can when you want to pass a prop challenge. In this article, we went through detailed tips to provide you with a step-by-step guide to passing prop challenges and reap the benefits of proprietary trading.
