Binary Options Dictionary

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Binary Options Dictionary

Binary options trading is relatively simple. However, no matter how simple a trading opportunity, it is still vital to know how it works, and understand the basics. This dictionary can help you understand the concepts related to binary options trading, so that you can make more informed choices.

Binary Option: The buyer enters a contract to purchase the right to buying an underlying asset. The price is fixed at a expiration point in the future. There are only two possible results with a binary option: (1) You are right, and when the option expires as you have predicted, you end “in the money” and receive a profit; or (2) You are wrong, and the options expires contrary what you predicted, and you are “out of the money” and you lose the premium you pay for the contract.

You do not actually own the underlying asset, and your profit or loss depends on how much you have invested. Your cost is determined at the beginning, so your risk of loss is known. You do not lose more than your premium to purchase the contract(s) in question.

Assets that binary options are based on include individual stocks, commodities, indices, and currency pairs.

Binary Options Brokers: These are (usually) Web sites that allow for binary options trading. Each broker offers a variety of options, and has different policies. Some brokers even allow the return of a portion of the investment (up to 15% in some cases) on out of the money options.

Binary Options Scam: Watch out for scams based on binary options. These might be illegitimate brokers, or brokers that use software that doesn’t record orders properly. There are also scammers that set up Web sites, and allow customers to engage in “trading,” but then suddenly disappear, taking the money with them. Others don’t allow you to withdraw your money when you would like. It’s important to watch out for scams as you look for reputable and legitimate binary options brokers.

Binary Options Trading Platform: Each broker has a platform that can be used for binary options trading. Platforms offer different opportunities and features, as well as different assets. Research brokers and trading platforms before you commit.

Boundary Option: A specific type of binary option in which you have to predict whether the asset’s value will expire within certain levels, or if it will expire outside those levels. For example, a boundary option might require you to choose whether or not EUR/USD will expire somewhere between the 1.2310 level and the 1.2318 level, or whether it will expire outside those boundaries.

Call Option: In this option, you predict that an option will expire at or above a certain point, expressing the belief that an underlying asset will gain in value. If you are right, you profit when the underlying asset gains in value and is above a certain price at the expiry time.

CBOE: Chicago Board of Options Exchange. The largest options exchange, and a great research tool.

Close Now: Some binary options brokers allow traders to close a trade before it expires. This strategy allows traders to safely take a profit on a winning position, or to limit losses on a losing position. Not all brokers offer this option; some require you to carry your trade to the options expiry.

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Digital Options: Another name for binary options.

Double Up: A few options brokers will allow you to duplicate an open trade quickly and easily, providing you with the chance to double your profits if you look to end in the money.

Early Closure: The ability offered by some brokers (but not all) to close a position once it is in the money. This allows traders to lock in profits, without worrying about whether things will change and the position will suddenly become out of the money before the expiry.

Expiry: The date and time that an option comes to an end. This information is set when you buy the options contract. Binary options contracts have expiration anywhere between half an hour in the future and months in the future.

Fixed Return Option: A type of binary option that provides a fixed return if you finish in the money. It is usually expressed as a percentage. If you purchase a call option of $1,00, for a company, and there is fixed 60% return for an in the money result, you know that – if you are right and the stock increases in value – you will receive $600 (60%), plus your initial investment of $1,000, for a total of $1,600.

A fixed return option allows you to know exactly how much you stand to earn, on top of knowing exactly how much you stand to lose (the amount you invested, if you are wrong).

High/Low Option: A “regular” binary option, in which you predict whether an underlying asset will increase or decrease as compared to purchase value. A call option indicates an increase in value, while a put option indicates that you expect the underlying asset to decrease in value.

In the Money: A term that indicates that you have predicted the correct outcome, and that you will receive a payout.

Out of the Money: A term that indicates that your predicted outcome hasn’t happened. The binary option expires, and you lose money.

Pair Option: A type of binary option that allows you to base your trade on the relative performance of different assets, such as whether or not oil will perform better than natural gas.

Put Option: This is the type of option you trade when you believe that an asset will expire below its original purchase price.

Range Accumulation Binary Option: Binary options in a series. Each option covers a short period – a day or a week. However, you aren’t paid at each expiry. Instead, you are paid the sum of all your payoffs at the end of the period (minus any losses).

Roll Over: It’s possible, when trading with some brokers (but not all) to put off the expiration of a contract. The idea is to give your position just a little more time to reach in the money status. You might have to increase the size of your position in order to qualify for a roll over.

Strike Price: This is the target price, or the price at which the options broker is willing to sell the option based on the contract, at the expiry time. In binary options, this the price at which you decide whether or not the asset will rise higher or lower. If you are right about which direction the asset moves, with it above or below the strike price at expiry, you end in the money and receive a payout.

Touch Option: This type of option offers a fixed return if the underlying reaches the target price at any time during the option’s lifetime. Once the target is “touched,” the option expires in the money.

Underlying Asset: This is the asset the binary option is based on: Individual equities, commodities, currencies, or indices. You do not actually own the asset when you trade binary options.

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.

Binary option

Binary option

Binary Option

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