How Trading Firms Make Money: The Business of Trading Explained

Trading firms make money in five ways: they earn the bid–ask spread by supplying liquidity, they collect risk premia that hedgers pay to shed risk, they profit from predictable flows and other traders' mistakes, they sell information and analysis, and they win races on speed. Brokers, exchanges and clearing houses make money differently, from fees and payment for order flow on every trade, whoever wins it. Because a derivative contract only moves money between its two sides, most of those profits are paid by other traders.

The scale is easiest to see from two numbers from the same year. Reuters reported in April 2026, from documents and anonymous sources that the firms did not confirm, that Jane Street earned about $39.6 billion of net trading revenue in 2025, part of it from revaluing private stakes. In India, the securities regulator SEBI found that 93% of 11.3 million individuals who traded equity futures and options in the three years to March 2024 lost money, about ₹1.81 lakh crore in all. Same kind of contracts, opposite results.

This guide explains who earns what in the trading business, why the money flows the way it does, and what separates the few firms that win year after year from the many traders who pay them. It is educational, not advice, and it recommends no strategy or security.

Is trading a zero-sum game?

Owning a stock index lets an investor share in what companies earn. Trading is different. A trader moves risk, time and information from one party to another. When one trader beats simply holding the market, someone else has earned less.

William Sharpe made the general argument in 1991. Split a market's holders into passive investors, who hold everything at market weights, and active ones, who do anything else. Before costs the passive group earns the market return, so the active group as a whole must earn it too. Active trading costs more, so after costs the average active dollar must earn less.

For listed options and futures the rule is stricter. There is no passive holder of a contract. Every long has a short, and the clearing house settles the gains of one side from the losses of the other every day. When a retail trader buys an S&P 500 call that expires worthless, the premium is the seller's gain, less the seller's hedging costs.

Two qualifications keep the arithmetic honest. A futures position can carry the equity risk premium, so a pension fund adding exposure and the dealer opposite may both be content. And insurance can be worth its price: a fund that buys index puts and loses the premium has not necessarily been beaten if the puts let it hold more stock through a crash. Zero-sum in dollars is not zero-sum in welfare.

After costs, though, traders as a group are in a negative-sum game. Commissions, spreads, exchange and clearing fees, the SEC's Section 31 fee ($20.60 per million dollars of stock sold from 4 April 2026), financing, borrow and taxes go to people who are not taking the other side of the bet. The chapter on why most traders lose and a few firms win develops this arithmetic in full.

Where do trading profits come from?

The book behind this guide, The Edge Equation, sorts every genuine trading profit into five sources. The companion's study of where trading profits come from develops each one.

Many profitable firms mix sources. An options market maker earns the spread, a share of the volatility premium when it is net short options, and the overpayment retail buyers make for cheap, short-dated calls. A trend follower earns from under-reaction and is, in effect, paid by investors who value its gains in crises.

There is a sixth "source" that is not one. Chart patterns, candlesticks, Fibonacci levels and martingale bots name none of the five. The companion's catalogue of 118 trading systems grades most of them D or F on the evidence. The test is simple: if the counterparty is "traders who do not know the pattern," why have the quant funds that test every pattern at scale left it on the table?

How do market makers make money?

A market maker sells immediacy. An investor who wants to buy now pays the market maker's offer; one who wants to sell now hits its bid. The firm earns the difference if it can buy and sell in roughly equal amounts before prices move against it.

Its main cost is adverse selection, trading with someone who knows more. If an informed trader buys just before the price rises, the market maker sold too cheaply. That is why market makers value uninformed flow, the small orders of retail investors, and pay brokers for it.

The economics depend on volume and independence. A worked example in the book gives each trade a tiny edge, winning about 50.8% of the time. At 1,000 independent trades a day, about a quarter of days lose money. At about 25,000 independent trades a day, a losing day comes roughly once in 1,278. That is how Virtu Financial could disclose one losing trading day in 1,238 between 2009 and 2013 in its 2014 prospectus. It is the law of large numbers working on a small edge, not proof that every trade won.

The industry is very concentrated, and the reason is mechanical. Fixed costs in technology, data and compliance are spread over volume. More flow means better short-term prediction, which means tighter quotes, which win more flow. In 2022 more than 90% of marketable retail stock orders in the United States went to six wholesalers, with Citadel Securities handling about 41%, according to the Congressional Research Service.

Net trading revenue is not profit, and a leaked figure is not an audit. Still, the scale shows where a large share of the money lost by active traders ends up. The study of market makers, HFT and proprietary trading firms covers the firms in detail, and the chapter on market makers and the speed business works through the arithmetic.

Why speed is worth paying for

When a public price moves, every quote in a related instrument goes stale until it is updated, and a faster firm can pick it off. Aquilina, Budish and O'Neill measured these races in London Stock Exchange data (Quarterly Journal of Economics, 2022). Races made up about 20% of trading volume, the top six firms won and lost more than 80% of them, and the "latency arbitrage tax" came to about half a basis point of trading value, around $5 billion a year globally. The catalogue grades latency arbitrage A for the firms and F for anyone else.

When the machine breaks

Speed fails fast. On 1 August 2012 a faulty software deployment at Knight Capital sent millions of unintended orders into the market in about 45 minutes and cost more than $460 million, according to the SEC. Knight had made about $115 million of net income in all of 2011. In a business whose edge is a fraction of a cent, kill switches and deployment controls are not overhead. They are what keeps the firm alive.

How do brokers make money from "free" trading?

Commission-free trading changed who pays, not whether anyone does. Robinhood launched zero-commission stock trades in March 2015 and commission-free options in December 2017. The large US brokers cut online stock commissions to zero in October 2019.

The broker is paid by the wholesalers that fill its customers' orders, a practice called payment for order flow. Options pay the most because option spreads are wide relative to the price and the payment is per contract. Robinhood's options transaction revenue was $314 million in the fourth quarter of 2025 on 659 million contracts, and $399 million in the third quarter of 2026 on a record 905 million contracts, by the company's figures. That works out to about $0.44–0.48 per contract, on simple division.

Brokers also earn interest on cash and margin loans, subscriptions and, increasingly, fees on event contracts. Robinhood's 2025 net interest revenue was about $1.5 billion of $4.47 billion total. The full mechanics, the conflicts and the regulatory fights are in our explainer on how payment for order flow works.

How do exchanges and clearing houses make money?

Exchanges take no market risk on the trades they host. They charge a toll on every contract, sell market data and design products that generate volume.

Cboe Global Markets is the clearest example. It created listed options in 1973, index options in 1983, the VIX in 1993 and weekly options in 2005, and by May 2022 it listed an S&P 500 index option expiring every trading day. Same-day options were a record 59% of SPX volume in 2025 and 66.2% in July 2026. A contract opened and closed within hours generates fees every day without building open interest. Cboe's net revenue was about $2.4 billion in 2025, a record.

CME Group runs the same model in futures. Its revenue is roughly volume times the fee per contract, plus data. It reported a record 28.1 million contracts a day and about $6.5 billion of revenue for 2025. Because volume rises with uncertainty and costs barely move, a crisis that does not break the clearing house is good business for an exchange.

Behind the exchanges sit clearing houses such as the Options Clearing Corporation, which becomes buyer to every seller and seller to every buyer. It cleared about 15.2 billion options contracts in 2025, up 24.4% on 2024. Its fees are a small part of a trader's cost. Its solvency is a large part of the market's.

Where does a retail trader's money go?

The book follows one stylized trade: a same-day S&P 500 call bought for about $500 and sold a few hours later at an unchanged midpoint, so every dollar lost is a cost. Fee levels are illustrative assumptions, not any broker's schedule.

The lesson is that the spread, not the commission, is the cost. In both routes it is more than nine-tenths of the total. Bryzgalova, Pavlova and Sikorskaya found US retail options traders paying effective spreads of about 12.6% of the option's price (versions of their 2023 paper differ). At that rate, the same $500 round trip costs about $63 before any fee. The chapter on following the money traces each step.

Why do most traders lose money?

The evidence is unusually strong because much of it comes from regulators and complete market records rather than surveys.

The losses come, roughly in order of size, from costs, from paying risk premia instead of earning them, from trading against faster and better-informed firms, from behavior, and from sizing. More trading produces worse results because costs scale with turnover and the gross edge does not.

Persistence is rare too. A stylized retail account that expects to lose 10.5% a year with 35% volatility is up in about 38% of years, but up in all of five years only about 0.8% of the time. Good years are common. Good careers are not. The study of retail trading outcomes collects the evidence, and the chapter on exchanges, brokers and the retail boom covers the industry that serves these traders.

None of this proves that no individual can win, or that every retail trade is irrational. Hedging, small bets for enjoyment and learning are reasonable uses of money. The error is treating a negative-expectation activity as a source of income.

How do hedge funds and quant funds fit in?

A hedge fund is a legal wrapper, not a strategy. Inside it sits almost every system in the catalogue, from statistical arbitrage to global macro. Hedge Fund Research put industry capital at about $5.22 trillion at the end of the first quarter of 2026.

The economics depend on fees. A traditional "2 and 20" takes about a third of a 12% gross return. Multi-manager "pod shops" such as Millennium and Citadel replaced the management fee with pass-through of all costs, including traders' pay. BNP Paribas data reported by Bloomberg showed investors in multi-strategy funds keeping about 41 cents of every dollar of gross profit in 2023.

What these funds sell is risk control as much as returns. Millennium reportedly halves a portfolio manager's capital after a loss of about 5% and usually lets the manager go at about 7.5%. Applied across hundreds of teams, the rule has produced one losing year since 1990, 2008, at −3.5%, by press accounts.

The trend followers and factor investors at the other end have the best published evidence and the longest losing streaks. Our comparison of trend following vs buy and hold shows what fifty years of live records say.

What separates the winners from the blow-ups?

The Edge Equation argues that durable trading profit needs four things at once, and that they multiply. If any is zero, the result is zero.

1. Edge: a positive expected value after costs, from a source that can be named, with evidence that survives out of sample.
2. Survival: sizing and leverage such that the worst plausible sequence does not end the game.
3. Execution: costs, liquidity, capacity and technology that let the edge be captured at the size needed.
4. Discipline and adaptation: following the rules through drawdowns, watching for decay, and capital that stays.

A stylized simulation in the book shows why the factors multiply. A strategy expecting 5% a year net, at no leverage, ends ten years ahead in more than nine paths in ten. At five times leverage, almost four paths in ten are closed out before the ten years are up. Raise costs to 6% a year and the edge is gone. And a trader who quits after a 15% fall from peak abandons the plan in nearly three paths out of four.

The history of trading is a catalogue of one factor going to zero while another was strong.

Our list of the biggest trading losses in history works through more of these cases, and the chapter on blow-ups and how they happen explains the liquidity spiral behind most of them.

How do you tell a real edge from a story?

Most trading claims fail the first factor, and most of what is sold as a system never had an edge. Five habits catch most of the problems.

Ask who is on the other side, and why they will keep paying. Edges that rest on a willing payer, such as an insurance buyer or an index fund that must trade at the close, last longest. Edges that rest on someone's mistake shrink once the mistake is learned.

Grade the evidence before reading the return. The companion ranks evidence from audited and regulator records, through peer-reviewed research and unaudited letters, down to backtests and marketing. A modest return with A-grade evidence beats a spectacular one with none.

Ask how many things were tried. The best of 1,000 strategies with no edge at all shows a Sharpe ratio of 1.82 over five years in the book's simulation. Our guide on how to spot backtest overfitting explains the statistics.

Ask what the crash looks like. A strategy that wins nine times in ten is usually short insurance. Our explainer on the variance risk premium shows why that premium is real and why it is collected in small amounts and taken back in large ones.

Size for the worst case, not the average. Our guide on how to calculate risk of ruin shows how Kelly sizing and drawdown math set the limits.

The glossary defines the terms used throughout.

The takeaway

Trading firms make money from spreads, risk premia, flows, information and speed, and the intermediaries around them make money from fees on every trade. Because derivatives move money between their two sides, those profits are largely paid by other traders, which is why regulators keep finding that most active individuals lose. The firms that win combine a named edge with costs far below it, positions small and diversified enough to survive, and controls that do not fail on a bad morning. The ones that blow up usually had an edge and lost one of the other three factors. The Edge Equation sets out the full framework, starting with Chapter 1 on why most traders lose and a few firms win.