Binary options are sometimes called asset or nothing options. One of the most outstanding characteristic about binary options is that they allow you to “bet” on a certain stock, commodity or currency whether it rises or falls, which has made it very popular with new traders. However, there is still lots of misinformation about how they work. In this article, we’re going to give you an introduction to binary options and some of the pros and cons for new traders.
Types of Binary Options
The most common type of binary is a high-low option. These are called fixed return options, because the option has an expiry date and strike price. If prices hit or exceed that strike price, the trader is paid the amount in the binary option contract. It doesn’t matter if the price is hit or well exceeded, the payout is the same. If the price doesn’t pass that strike price, the investor loses their money.
Range binary options or boundary trades pay out if the price goes beyond the strike price once before expiration date for the trader to be paid. Some contracts allow traders to select a price range and be paid if the asset price goes outside of those high and low points.
One Touch binary options pay out once the price passes a predetermined barrier. You lose your money if the asset doesn’t pass that threshold by the expiry date.
No Touch binary options pay out if the price of the asset doesn’t exceed a specific barrier. If the price goes past that set point by the expiration date, you lose your money. No touch binary options are thus similar to traditional call/put options.
There are complex combinations available to traders like double no touch binary options and double one touch binary options. Read resources like the Stern Options Blog to understand these categories and how to structure contracts to minimize your losses.
Pros of Binary Options
Binary options allow you to trade on many global networks without owning assets in any market.
Binary options can be used on all the major markets. You can seek binary options contracts for stocks, commodities, foreign currency exchange and other types of assets. For example, you could use binary options to bet on Bitcoin’s rise without the hassle of buying and selling Bitcoins. There is no personal security risk involved as one would have when buying and selling gold coins.
Options give you the right to buy an asset at that price but not the obligation to do so. Futures involve the obligation to buy the item at that price unless the holder’s position is closed before the expiry date of the contract. While it is highly unlikely anyone in an options contract on cattle or grain will have it delivered to their home, the common resolution is to pay the producer the difference between the futures price and the market price to keep their product. If you’re wrong on the price in a binary options trade, you don’t have to pay anything else beyond the cost of the options contract.
It is often possible to sell an options contract. In the case of real estate, paying a fee for the option to buy real estate at a given price could pay off handsomely if someone else bought the options contract from you to secure a real estate deal you didn’t want to follow through on. This is less common in commodities trading but does occur.
Futures have a much larger underlying position, and that creates more risk for new traders than binary options contracts. Another benefit of binary options is their low cost. Binary contracts are typically available for less than a hundred dollars each.
You can realize gains on options in three ways. First, you can exercise the option if it is deep in the money. You can try to make money off the option by taking the opposite position, though this increases the risk involved. Or you can wait until the expiry date and collect the difference between the strike price and asset price.
Binary options contracts can pay out quickly. Some contracts pay out at the end of the day, versus “day trading”, which often requires waiting a few months to see a profit or reduced tax rates to make the deal worthwhile.
Cons of Binary Options
The biggest downside of binary options is that the reward is less than the risk by design, the same way lottery tickets never pay out more than the money they take in minus administration fees. Brokers selling binary options make money by taking a percentage of the discrepancy between what they pay out to traders and what they take from those who lose on options contracts.
Forbes published an article in 2010 titled “Don’t Gamble on Binary Options”. It described options trading as similar to gambling but slightly more legitimate because it looked like investing. You have the potential of big gains, but you lose everything if you guess wrong, and you’re competing against traders who have access to powerful computers analyzing trends and able to react in microseconds.
Foreign binary option contract brokers are not allowed to offer trading options to U.S. residents unless registered with the Commodities Futures Trading Commission or Securities and Exchange Commission. Many traders are lured by the promise of foreign options trading and lose money to scammers.
Binary options contracts have an upfront cost, whereas futures contracts do not. These fees, though, can be seen as the privilege of not being committed to buy the item if prices are unfavorable to the options holder. If you don’t want to exercise the option, you don’t have to.
If you use an unregulated platform to buy stock options, the money may not be held in a trust account or monitored by third parties; in these cases, the investor is at risk of being defrauded.
“One minute options” are an option. However, human psychology works against the investor. The emotional roller coaster of betting on the market minute by minute with 1 minute options taps into the same circuits that online gambling does. Short term options cause investors to monitor the trends and continually reinvest the money until their account is dry in the hope of hitting it big.
Conclusion
Binary options are a low cost way of profiting on the trade of almost any type of commodity or investment. Their biggest benefits are the multiple ways you can profit from options and flexibility. The risks of binary options include the tendency to monitor it constantly and buy in the hope the trend continues regardless of the odds of losing money, being scammed by options trading sites more closely related to gambling than registered securities brokers and a system that rarely pays out more than someone puts in.
