A binary option is a financial option. If the contract is held until expiration, it comes with one of two payment options: a fixed amount or none at all. This is why they are called binary options-because there is no other possible settlement method. The premise behind binary options is a simple yes or no proposition: Will the underlying asset be higher than a certain price at a certain time?
Traders trade based on whether they think the answer is yes, making it one of the easiest financial assets to trade. This simplicity has caused widespread traction among traders and new hands in the financial markets. It seems simple. Traders should fully understand how binary options work, the market and time range they can use for binary options trading, the advantages and disadvantages of these products, and which companies are legally authorized to provide binary options to residents of the United States .
The structure of binary options traded outside the U.S. is usually different from the binary options offered by U.S. exchanges. When considering speculation or hedging, binary options are another option-but only if the trader fully understands the two potential outcomes of these exotic options.
- Binary options are based on yes or no propositions. If held to maturity, either a fixed amount is paid or not at all.
- These options may have risk caps or potential caps and are traded on Nadex.
- The buying and selling prices are set by the traders themselves, because they assess whether the proposed probability is true.
- The transaction cost of each Nadex contract is US$1, the entry cost is US$1, and the exit cost is US$1.
U.S. Binary Options explained
Binary options provide a market trading method based on yes or no propositions with upper limit risk and upper limit profit potential.
Let’s take the following question as an example: Will the price of gold be higher than $1,830 at 1:30 this afternoon?
If you believe it will be, you buy a dual option. If you think that the price of gold will be at or below $1,830 at 1:30 pm, then you sell the binary option. The price of binary options is always between 0 USD and 100 USD, just like other financial markets, there are buying and selling prices.
The trading price of the above binary options at 1 pm may be 42.50 US dollars (buying price) and 44.50 US dollars (selling price). If you purchased a binary option at that time, you would pay $44.50, excluding fees. If you decide to sell immediately, your price will be $42.50, excluding fees.
Suppose you decide to buy it for $44.50. If the price of gold is higher than $1,830 at 1:30 pm, your option will expire and be worth $100. You made a profit of 100 USD—44.50 USD = 55.50 USD (minus expenses). This is the so-called money. But if the price of gold falls below $1,830 at 1:30 pm, the option expires at $0. As a result, you have lost $44.50 in investment and expenses. This called out money.
The buying price and selling price fluctuate until the option expires. You can close your position at any time before expiration to lock in profits or reduce losses instead of letting it expire.
Zero sum game
Finally, if the binary option proposition is true, the settlement price of each option is 100 US dollars or 0 US dollars-100 US dollars, if the result is false, it is 0 US dollars. Therefore, the total value potential of each binary option is 100 USD. This is a zero-sum game-what do you earn, others lose, you lose, and others earn.
Every trader must provide funds for their counterparty. In the example above, you bought an option for $44.50, and then someone sold you the option. If the option settlement price is $0, your maximum risk is $44.50, so the transaction cost is $44.50, excluding fees. If the option is settled at 100 USD-100 USD-44.50 USD = 55.50 USD (excluding fees), then the maximum risk of the person selling to you is 55.50 USD.
If needed, traders can buy multiple contracts. This is another example:
- Standard & Poor’s US 500 Index> 4405.2 (4:15 pm).
The current bid and offer price are $18.00 and $24.00 respectively. If you think that the index will be higher than 4405.2 at 4:15 pm, you buy a binary option at a price of $24, or bid at a lower price and hope that someone sells it to you at that price. If you think that the index will be lower than 4405.2 by then, you sell it at a price of $18, or make an offer higher than that price and hope that someone will buy it from you.
You decide to buy at 24:00, believing that the index will be higher than 4405.02 (called the strike price) before 4:15 pm. If you really like the transaction, you can sell (or buy) multiple contracts.
Figure 1 shows a transaction to buy a contract (size) for $24. The Nadex platform will automatically calculate your maximum loss and gain, maximum return on investment and in-the-money probability (ITM) when you create an order (called a bill).
Nadex transaction notes with maximum profit, maximum loss and probability ITM
The maximum profit of this ticket is $76, and the maximum loss is $24, excluding expenses.
Determination of buying price and selling price
The buying price and selling price are determined by the traders themselves, because they assess the possibility of the proposal being true or not. In simple terms, if the bid and ask prices of a binary option are 85 and 89, respectively, then the buyer’s trader will assume that the outcome of the binary option is very likely to be yes, and the option will expire at the buyer’s value 100 dollars. If the bid and ask prices are close to 50, the trader is not sure whether the binary file will expire at $0 or $100-this is a relatively average odds.
If the buying price and selling price are 10 and 15, respectively, it means that the seller trader believes that the option outcome is likely to be no, and the seller is worth $100 at the time of expiration. Buyers in this area are willing to take small risks to get big profits. Although those who sell are willing to take a small but very likely profit for a large risk (relative to their return).
Where to trade binary options
Trade binary options on the Nadex exchange, which is the first legal exchange in the United States to focus on binary options. Nadex, the North American Derivatives Exchange, provides its own browser-based binary options trading platform through which traders can Demo account Or real account. The trading platform provides real-time charts and direct market access to current binary options prices.
Binary options are traded on Nadex (North American Derivatives Exchange).
Binary options are also available through the Chicago Board Options Exchange (CBOE). Traders with an option approved brokerage account can trade CBOE binary options through their traditional trading account. However, not all brokers offer binary options trading.
Binary option fee
The transaction cost of each Nadex contract is US$1, the entry cost is US$1, and the exit cost is US$1.
If you hold the transaction until the settlement and completion of the transaction, the exit fee will be charged to you when it expires. But if you hold the transaction until settlement, but you run out of money, no settlement fee will be charged.
CBOE binary options are traded through various options brokers. Each charges its own commission.
Choose your binary market
Multiple asset classes can be traded through binary options. Nadex provides Major index trading For example, Dow 30 (Wall Street 30), Standard & Poor’s 500 (US 500), Nasdaq 100 (US Technology 100), and Russell 2000 (US Small Cap 2000). Global indexes for the United Kingdom (FTSE 100), Germany (Germany 40), China (China 50) and Japan (Japan 225) are also provided.
You can trade on foreign exchange pairs: EUR/USD, GBP/USD, USD/JPY, EUR/JPY, AUD/USD, USD/CAD, GBP/JPY, USD/Swiss Franc, EUR/GBP, AUD /Yen, as well as US/Mexican pesos.
Nadex offers commodity binary options related to the prices of crude oil, natural gas, gold, silver, copper, corn and soybeans.
Event binary options can also trade news events. According to whether the Fed will raise or lower interest rates, or whether the number of initial jobless claims and non-agricultural employment is higher or lower than generally expected, buy or sell options.
The Chicago Board Options Exchange offers two trading binary options. Standard & Poor’s 500 Index Options (BSZ) Based on S&P 500 Index and Volatility Index options (BVZ) Based on the CBOE Volatility Index (Volatility).
Choose your option time range
Traders can choose between intraday, daily or weekly Nadex binary options (in the above asset class).
Intraday options provide an opportunity for day traders, even in calm market conditions, if they choose the market direction correctly within the time frame, they can still get a set return.
Daily options expire at the end of the trading day, which is very useful for intraday traders or those who want to hedge their holdings of other stocks, foreign exchange or commodities against the trend of the day.
Weekly options expire at the end of the trading week and are therefore traded by swing traders throughout the week, and they are also traded by day traders when the options are about to expire on Friday afternoon.
Event-based contracts expire after the official news related to the event is released, so all types of traders will open positions before expiration — and until the expiry date.
Any perceived volatility in the underlying market also tends to affect the pricing method of binary options.
Consider the following example. There are 1.5 hours before the expiry date. Will the EUR/USD rise above 1.1815, while the spot EUR/USD currency pair is trading at 1.1825? When the volatility is low on a certain day, the EUR/USD spot may hardly be expected to change, and the cost of the sale and purchase contract may be in the range of US$90. The EUR/USD is already 10 points, and the underlying market is expected to be flat. Therefore, there is a high probability that the buyer will receive a payment of $100.
However, if the EUR/USD fluctuates significantly during the volatile trading session, the cost of the sale and purchase contract will be pushed to close to $50, because the potential market price remains above 1.1815 with a lower probability of greater market volatility.
Advantages and disadvantages of binary options
Unlike the actual stock or foreign exchange market where price gaps or slippage may occur, the risk of binary options is capped. Losses cannot exceed transaction costs, including expenses.
In a very quiet market, returns may also be above average. If there is almost no change in the stock index or foreign exchange pair, it is difficult to make a profit, but for binary options, the return is known. If you buy a binary option at a price of 20 US dollars, it will be settled at 100 US dollars or 0 US dollars, so that you can get 80 US dollars or lose 20 US dollars in the 20 US dollars investment. This is a 4:1 risk-reward ratio, and it is unlikely to find this kind of opportunity in the actual binary options market.
On the other hand, your income is always capped. No matter how many changes in the stock or foreign exchange pair are beneficial to you, the maximum value of a binary option is $100. Buying multiple option contracts is a way to profit from expected price changes.
Since the maximum value of binary options is $100, traders can use them even if the trading capital is limited, because the traditional daily trading restrictions on stocks do not apply. As long as you have enough funds in your account to cover the maximum risk of the transaction, you can deposit $100 in Nadex to start trading.
Binary options are derivatives based on underlying assets that you do not own. Therefore, if you own actual stock, you are not entitled to the voting rights or dividends that you qualify for.
Binary options are based on yes or no propositions. Your profit and loss potential depends on your buying or selling price, and whether the value of the option at expiration is $100 or $0. Both risk and return are capped, and you can exit the option at any time before expiration to lock in profits or reduce losses.
Binary options in the United States are traded through the Nadex and CBOE exchanges. Foreign companies that solicit U.S. residents to trade their binary options are usually operating illegally. The barriers to entry for binary options trading are very low, but simplicity does not mean that it is easy to make money. There is always someone on the other side of the transaction who thinks they are right and you are wrong.
Use only the capital that you can afford to lose, and trade a simulated account before using real capital to fully understand how binary options work.