Binary options are an outstanding method of trading market direction, whether it’s going up or down.

As a buyer you can never lose more than you pay for the binary option and as a seller you can never lose more than you pay for the binary option. For the buyer, the binary trade price is the cost and for the seller, the cost is the difference between the trade price and 100. At expiration the binary will always settle at either zero or 100 where only one binary participant will receive the payout. The capped $100 payout makes it easily quantifiable to compare the risk, return and ROI choices at the various binary strikes and durations dependent on your underlying market view.

Remember the old adage that timing is everything? How many times have you traded where your market call on direction was right only to have the misfortune of being stopped out? With binaries you still have to call the market direction correctly but you have the benefit of a little more wiggle room.

Let’s say it is Tuesday and from your analysis, you’re bullish the EUR/USD but waiting for tomorrow morning’s news release for confirmation. The spot currency is currently trading at 1.3593 and you are anticipating the market to rally around 1.3650 to 1.3660.

Let’s say your time frame for the trade is 1 to 2 days for the anticipation of the trade target to be achieved. Nadex lists its binary contracts for 2 hours, 1 day and 1 week so given our time frame restriction, we will only focus on the daily and weekly binaries. From the daily binary option chain we can compare just a few of the many strikes listed that will expire at 3:00pm EST on Wednesday.

Assumption: Binary Buyer receives settlement payout, cost is offer price and excluded are exchange fees

Daily EUR/USD > 1.3660 - Cost11/ net payout 89/ percent return 809%/ -67 pip disadvantage

Daily EUR/USD > 1.3640 - Cost 19.50/ net payout 80.50/ percent return 413%/ -47 pip disadvantage

Daily EUR/USD > 1.3620 - Cost 31.50/ net payout 68.50/ percent return 217 %/ -27 pip disadvantage

Daily EUR/USD > 1.3600 - Cost 46.50/ net payout 53.50/ percent return 115%/ -7 pip disadvantage

Daily EUR/USD > 1.3580 - Cost 62.50/ net payout 37.50/ percent return 60%/ +13 pip advantage

Daily EUR/USD > 1.3560 - Cost 77.00/ net payout 23.00/ percent return 29.9%/ +33 pip advantage

*One concern could be a missed opportunity if the underlying market makes the expected bullish move after the binary expires.

From the weekly binary option chain we can compare just a few of the strikes listed that will expire at 3:00pm EST on Friday. The weekly binary contracts are listed for trading at 6:00pm ET on Sunday.

Assumption: Binary Buyer receives settlement payout, cost is offer price and excluded are exchange fees

Weekly EUR/USD > 1.3675 - Cost 19/ net payout 81/ percent return 426% / -82 pip disadvantage

Weekly EUR/USD > 1.3625 - Cost 38/ net payout 62/ percent return 163%/ -32 pip disadvantage

Weekly EUR/USD > 1.3575 - Cost 61.50/ net payout 38.50/ percent return 63%/ +18 pip advantage

Weekly EUR/USD > 1.3525 - Cost 81.50/ net payout 18.50/ percent return 22.7%/ +68 pip advantage

*One concern assumes the market makes the expected bullish move by Thursday, within the 2 days however the binary does not expire until Friday.

The full 100 payout is not realized until expiration so your position will gain in value but not the 100 value per contract. Your choices could be to take a profit now or hold till expiration. If you hold, hopefully the EUR/USD does not sell off and finish below your strike at expiration where your position would be worthless.

Note the 1.3675 strike is higher than your target but if the underlying market moves higher toward the strike, your position would gain in value at some delta of 100. Rule of thumb if underlying is trading around the strike the fair value should be approximately 50.

As you see there are lots of trading choices using binary options with different ROI’s. It really comes down to the individual trader’s risk profile and what they are most comfortable with given their underlying market bias.

Futures, options and swaps trading involves risk and may not be appropriate for all investors.

Related Articles
  1. Options & Futures

    What Does Quadruple Witching Mean?

    In a financial context, quadruple witching refers to the day on which contracts for stock index futures, index options, and single stock futures expire.
  2. Options & Futures

    4 Equity Derivatives And How They Work

    Equity derivatives offer retail investors opportunities to benefit from an underlying security without owning the security itself.
  3. Options & Futures

    Five Advantages of Futures Over Options

    Futures have a number of advantages over options such as fixed upfront trading costs, lack of time decay and liquidity.
  4. Term

    What is Pegging?

    Pegging refers to the practice of fixing one country's currency to that of another country. It also describes a practice in which investors avoid purchasing security shares underlying a put option.
  5. Home & Auto

    Understanding Pre-Qualification Vs. Pre-Approval

    Contrary to popular belief, being pre-qualified for a mortgage doesn’t mean you’re pre-approved for a home loan.
  6. Investing Basics

    An Introduction To Structured Products

    Structured products take a traditional security and replace its usual payment features with a non-traditional payoff.
  7. Options & Futures

    Contango Versus Normal Backwardation

    It’s important for both hedgers and speculators to know whether the commodity futures markets are in contango or normal backwardation.
  8. Investing Basics

    What Does Contango Mean?

    Contango​ is when the futures price of a commodity is higher than the expected future spot price.
  9. Options & Futures

    The Short Guide To Insure Stock Market Losses

    The best ways to hedge against losses are to diversify your portfolio and to use a variety of options.
  10. Options & Futures

    An Introduction To Swaps

    Learn how these derivatives work and how companies can benefit from them.
  1. What is a derivative?

    A derivative is a contract between two or more parties whose value is based on an agreed-upon underlying financial asset, ... Read Full Answer >>
  2. What is after-hours trading? Am I able to trade at this time?

    After-hours trading (AHT) refers to the buying and selling of securities on major exchanges outside of specified regular ... Read Full Answer >>
  3. How do hedge funds use equity options?

    With the growth in the size and number of hedge funds over the past decade, the interest in how these funds go about generating ... Read Full Answer >>
  4. Can mutual funds invest in options and futures? (RYMBX, GATEX)

    Mutual funds invest in not only stocks and fixed-income securities but also options and futures. There exists a separate ... Read Full Answer >>
  5. How does a forward contract differ from a call option? (AAPL)

    Forward contracts and call options are different financial instruments that allow two parties to purchase or sell assets ... Read Full Answer >>
  6. How can an investor profit from a fall in the utilities sector?

    The utilities sector exhibits a high degree of stability compared to the broader market. This makes it best-suited for buy-and-hold ... Read Full Answer >>
Hot Definitions
  1. Presidential Election Cycle (Theory)

    A theory developed by Yale Hirsch that states that U.S. stock markets are weakest in the year following the election of a ...
  2. Super Bowl Indicator

    An indicator based on the belief that a Super Bowl win for a team from the old AFL (AFC division) foretells a decline in ...
  3. Flight To Quality

    The action of investors moving their capital away from riskier investments to the safest possible investment vehicles. This ...
  4. Discouraged Worker

    A person who is eligible for employment and is able to work, but is currently unemployed and has not attempted to find employment ...
  5. Ponzimonium

    After Bernard Madoff's $65 billion Ponzi scheme was revealed, many new (smaller-scale) Ponzi schemers became exposed. Ponzimonium ...
  6. Quarterly Earnings Report

    A quarterly filing made by public companies to report their performance. Included in earnings reports are items such as net ...
Trading Center