Broker’s Edge Calculator
Binary trading is advertised as commission-free trading. Indeed, there is no spread to pay, like there is in Forex, and there is no fee per trade, like there is in stocks. Binary options commission or house advantage resides in the difference between option’s potential return (payout) and option’s out-of-money reward (if any).
You can use the calculator below to find out your broker’s edge on a particular binary trade given the payout amount and the out-of-money reward. It is similar to house edge in a game of roulette. This edge (commission) calculator assumes that the chance of winning is 50%. Of course, a skillful trader chooses proper entry direction and timing to skew the chances in his or her own favor, but the goal of this free calculator is to allow some estimation and comparison of broker’s commission.
The broker's edge is %. It means that, given equal chance of winning or losing each binary bet, you will be down by % on every trade. You can also say that this binary option's commission is %.
Using $100 trade size, you will end up with a loss of about after 10 such trades. Of course, it is considering the same probability for trade to result in profit or in loss.
Two models of option pricing and settlement
Traditionally, a binary option is priced between $0 and $100, depending on the current underlying price, time to expiration, market volatility, and other factors. When the option settles, it does so either in-the-money or out-of-the-money. If a former case, your actual profit is $100 minus the price of the option (premium). If the option settles out-of-the-money, you get $0, which means that your total loss is the premium that you have paid for that option.
In this case, the broker's edge is based on the price of the option, and more specifically, on the difference between the price they can sell you this option and the price they can buy this same option back from you (so called early close). This model is mostly used for the exchange-traded binary options and is rarely employed in the online binary options industry. Notable exceptions are NADEX and Binary.com.
A binary option can be sold by a broker at some fixed price (premium), for example, $100. When the option settles in-the-money, it wins the price paid for the option ($100) plus some percentage of its price (which makes it similar to a stake in gambling), for example 85%. If the out-of-money reward is offered by the broker, the adverse settlement of the binary option results in return of some small percentage of the stake, for example, 10%. As you can see by inputting the values in the calculator above, there is little practical point in the out-of-money reward - its main goal is to create emotional reinforcement to a losing trader.
Worth noting is that with this model, unlike with the traditional option pricing model, the potential risk is always higher than the potential gain. Traditional binary options pricing allows traders to use much more favorable risk-to-reward ratio whereas with fixed price options, the R/R ratio is always less than 1.