Binary Options Characteristics

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Binary Options Characteristics

Hello traders! Today I’ve prepared for you 11 things that I think perfectly describe what binary options are and how they work. I noted really just the most important ones which are elementary. So let’s look at it.

  • Unlike trading on Forex, binary options traders are not limited by the leverage effect. (Leverage effect allows you to trade with more resources than you have, so your profit or loss can be far greater. In the most cases, the foreign capital is provided by a broker and of course it is not for free.)
  • You know your profit or loss from individual trades ahead and you can’t lose more money than you invest (for Forex it is the exact opposite).
  • A number of your profits from particular binary option does not depend on the amount of the price change of the underlying asset. (What I am trying to say is that any price change will not change the profit. Your profit is set ahead and it can’t change.)
  • The payouts and losses are clearly defined in advance for all binary options trades!
  • Most of binary options brokers listed on our website (see List of binary option brokers) offer early close options. When the traders consider the price favorable, this feature allows them to exit the trade at any time prior to closing time. That allows traders to gain quick profits from any trade or minimize their losses. For example, you can sell the option when you see the trade is not going to be profitable and you will not lose 100% of the money from your trade.
  • All listed brokers on this page (and most of all other brokers) are offering payouts from 69 to 90% for a huge variety of assets. To see the exact payout percentage you have to visit the broker internet page.
  • Binary option trading is quite easy. You even don’t need any previous experience with trading. (It is significantly easier than Forex trading.)
  • There are no hidden fees on binary option trading (when we talk about regulated brokers). Occasionally there is a fee for inactivity or withdrawals fee, but that doesn’t happen very frequently. For example, the IQ Option broker offers withdrawals for free.
  • You don’t have to be an experienced professional trader, mathematical genius nor supernaturally smart individual to profit from binary option trading. Literally, everyone can successfully trade binary options, whether you’re a student, a mother on maternity leave or accountant.
  • All binary options trades have just two possible outcomes. That’s why we are calling them binary. (The binary system also only has two possibilities, 1 and 0.)
  • When you open a position with the underlying asset, it doesn’t mean, that you are buying it. You only predict the direction of price change of the asset.

I hope you like these characteristics of binary options. It was written mainly for novice traders and people, who don’t know binary options at all. Do you have any other idea about the characteristics? Leave a comment! Anything you share with us can help novice traders. Thank you ��

Author

More about the author Step

I’ve wanted to build a business of some kind and earn money since I was in middle school. I wasn’t very successful though until my senior year in highschool, when I finally started to think about doing online business. Nowadays I profitably trade binary options full-time and thus gladly share my experiences with you. More posts by this author

2 Responses to “Binary Options Characteristics”

Good blog post. I want to thank you for interesting and helpful information and I like your point of view. Thank you!- I love to read this type of material Good and attractive information I take from it.. Thank you for posting such a good article.

Binary Options and Their Unique Characteristics

The word binary means two. A binary option contract is a simple derivative contract with only two possible outcomes.

Depending on the prevailing price of the asset at expiry, the trader either loses his entire investment or receives a pre-determined profit percentage.

Thus, binary option contracts are also referred to as fixed return options (FRO) or all-or-nothing contracts.

The value of a vanilla or regular option traded on an exchange keeps changing in accordance with the changes in the price of the underlying asset.

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On the other hand, the value of a binary option contract is determined only at the time of expiry. It can be understood by a simple example provided below:

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Let us assume that a buyer purchases a call option contract for gold. Let the price of gold at the time of purchasing the contract is $1200 per ounce.

Let us assume that the expiry time is one day.

At expiry, if the price is above $1200, then the binary call option contract will result in a profit. The holder of the binary contract will receive up to 92% (depending on the broker) of the invested amount. If the price is below $1200, then the binary call option contract will expire worthless. The holder of the contract will lose his entire investment. The inverse is true in the case of put option contract.

As it can be understood, there is no way to exit (some brokers offer such a facility, which we can discuss in later topics) in between.

In the case of vanilla options, which are traded on an exchange, the value keeps changing and a trader can exit any time in between. However, the difference between the price of the underlying asset at the time of entry and exit determines the value of a vanilla option and the corresponding profit or loss. On the other hand, a binary option holder will receive the pre-determined payout even if the price has moved only a few notches favourably in the direction of trade.

The following are the most important differences between vanilla and binary options contract:

Counter parties: The binary options contract is an Over-The-Counter (OTC) product. It is not traded in any exchange (apart from Nadex which offers a totally different structure). The contracts are offered by brokers who act as the sellers (writers). The retail trader will be the buyer (holder) of the contract. In the case of vanilla options, the exchange facilitates or provides a platform for two parties to buy (holder) and sell (writer) an option contract. As it can be understood, the broker (market maker as they are called technically) bears the risk by writing the contract in the case of binary options. In the case of vanilla options, the exchange simply supervises the trade and does not bear any price movement related risks.

Expiry: The binary option contracts are created by the brokers without the involvement of the regulatory bodies. Thus, binary option brokers offer a wide range of expiry periods starting from 30seconds. On the other hand, the structure of a vanilla option contract is determined by the exchange and regulatory bodies. Thus, generally, the vanilla contracts only have monthly expiries. Being an OTC market, the binary brokers are at full liberty to customize products to suit the demand of individual traders. It is not so in the case of vanilla options contract.

Range of options contract: The binary brokers not only offer contracts with multiple expiry periods, but also modifications in the settlement process. For example, in the case of a one touch option contract, as long as the price touches a specific level any time before the expiry of the contract, the trader will receive a fixed amount as profits. However, the vanilla option contracts follow the same standard structure.

Payout: As long as the price keeps moving in the direction of trade, the value of a vanilla option contract will increase. Thus, theoretically, the profits can be unlimited. However, sudden reversals before the expiry time will erode most of the gains. In the case of binary options contract, the trader will receive a fixed profit irrespective of the quantum of price movement in the direction of trade. For example, if a binary options trader has bought a put option contract for gold at $1200, then as long as the price trades below $1200 at expiry, the trader will bag the entire amount allotted as profit. Irrespective of whether the price trades at $1199.99 or $1100, the trader would receive the same fixed percentage guaranteed at the time of entering the contract. In the case of vanilla options, practically, the trader would only incur a loss if the price trades at $1199.99. The reason is that value of vanilla option contracts suffer from time decay. Binary option contracts do not face such an issue.

Other charges: Binary option brokers do not charge any other fees for executing a trade. On the other hand, vanilla option trades would involve exchange related fees and other taxes imposed by the state where the exchange is located. The binary options broker, being a counter party (writer) to all the trades, receives the entire investment of a trader as profit whenever an option holder loses the trade. Thus, the binary options broker does not levy extra charges for executing a trade. Reputed binary options broker mitigates risk through hedging and sophisticated algorithms. This protects them from losing a large amount of money when a trader wins consistently.

Exercise time and rights: The binary option contracts are purely speculative contracts. Thus, the buyer (holder) of the contract will not have any rights to exercise (no demand can be made to buy or sell the underlying asset at the price mentioned in the contract). The contract simply ends in a profit or loss at expiry. The market maker or broker bears the entire risk. On the other hand, vanilla options traded through an exchange offer exercising rights to a trader. The trader can claim his right to buy or sell the underlying asset at or before the expiry.

Binary Option

What is a Binary Option?

A binary option is a financial product where the buyer receives a payout or loses their investment, based on if the option expires in the money. Binary options depend on the outcome of a “yes or no” proposition, hence the name “binary.” Binary options have an expiry date and/or time. At the time of expiry, the price of the underlying asset must be on the correct side of the strike price (based on the trade taken) for the trader to make a profit.

A binary option automatically exercises, meaning the gain or loss on the trade is automatically credited or debited to the trader’s account when the option expires.

Binary Options Outside the US

Basics of a Binary Option

A binary option may be as simple as whether the share price of ABC will be above $25 on April 22, 2020, at 10:45 a.m. The trader makes a decision, either yes (it will be higher) or no (it will be lower).

Let’s say the trader thinks the price will be trading above $25, on that date and time, and is willing to bet $100 on it. If ABC shares trade above $25 at that date and time, the trader receives a payout per the terms agreed. For example, if the payout was 70%, the binary broker credits the trader’s account with $70.

If the price trades below $25 at that date and time, the trader was wrong and loses their $100 investment in the trade.

Key Takeaways

  • Binary options depend on the outcome of a “yes or no” proposition.
  • Traders receive a payout if the binary option expires in the money and incur a loss if it expires out of the money.
  • Binary options set a fixed payout and loss amount.
  • Binary options don’t allow traders to take a position in the underlying security.
  • Most binary options trading occurs outside the United States.

Difference Between Binary and Vanilla Options

A vanilla American option gives the holder the right to buy or sell an underlying asset at a specified price before the expiration date of the option. A European option is the same, except traders can only exercise that right on the expiration date. Vanilla options, or just “options,” provide the buyer with potential ownership of the underlying asset. When buying these options, traders have fixed risk, but profits vary depending on how far the price of the underlying asset moves.

Binary options differ in that they don’t provide the possibility of taking a position in the underlying asset. Binary options typically specify a fixed maximum payout, while maximum risk is limited to the amount invested in the option. Movement in the underlying asset doesn’t affect the payout received or loss incurred.

The profit or loss depends on whether the price of the underlying is on the correct side of the strike price. Some binary options can be closed before expiration, although this typically reduces the payout received (if the option is in the money).

Binary Options and Regulation

Binary options occasionally trade on platforms regulated by the Securities and Exchange Commission (SEC) and other regulatory agencies, but most binary options trading occurs outside the United States and may not be regulated. Unregulated binary options brokers don’t have to meet a particular standard; therefore, investors should be wary of the potential for fraud. Conversely, vanilla options trade on regulated U.S. exchanges and are subject to greater oversight.

Real World Binary Options Example

Nadex is a regulated binary options exchange in the United States. Nadex binary options are based on a “yes or no” proposition and allow traders to exit before expiry. The binary option’s entry price indicates the potential profit or loss, with all options expiring worth $100 or $0.

Let’s assume stock Colgate-Palmolive Co. (CL) is currently trading at $64.75. A binary option has a strike price of $65 and expires tomorrow at 12 p.m. The trader can buy the option for $40. If the price of the stock finishes above $65, the option expires in the money and is worth $100. The trader makes $60 ($100 – $40).

If the option expires and the price of the Colgate is below $65 (out of the money), the trader loses the $40 they put into the option. The potential profit and loss, combined, always equals $100 with a Nadex binary option.

If the trader wanted to make a more significant investment, he or she could change the number of options traded. For example, selecting three contracts, in this case, would up the risk to $120, and increase the profit potential to $180.

Non-Nadex binary options are similar, except they typically aren’t regulated in the United States, often can’t be exited before expiry, usually have fixed percentage payout for wins (whereas Nadex payouts fluctuate based on the price paid for the option) and may not trade in $100 increments.

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  • BINOMO
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    2nd place in the ranking!

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