What Is Binary Options Trading?

While Forex trading is probably the trendiest type of online trading right now, binary options trading is perhaps the up-and-coming thing. What is a binary option? You can describe a binary option as a type of option where the payoff is either a fixed amount of an asset or nothing. If you’re not already familiar with options in general, an option is a standardized contract that provides a trader with the right to buy or sell (“call” or “put”) an underlying financial instrument. You may also hear binary options referred to as “exotics,” all-or-nothing options, digital options, or Fixed Return Options (FROs). The features of binary options are similar to the components of regular options. Each option will have an expiration date, a strike price (also known as an “exercise price”), and a premium paid for the right to buy or sell.

Types of Binary Options

Binary options come in two specific types: cash-or-nothing binary options and asset-or-nothing binary options. These two types of options are exactly what they sound like. If you are profitable with a cash-or-nothing binary trade, you’re paid a fixed amount of cash if your option expires while in-the-money. If you are profitable with an asset-or-nothing binary option, you’re paid the value of the underlying financial instrument if the option expires while in-the-money.

Let’s look at an example of a binary option that is cash-or-nothing. Let’s say you decide to buy a binary cash-or-nothing option on a particular company’s stock at a strike price of $400.00. The payoff value is set at $2000.00. In options trading, we refer to this as a “call,” which simply means a buy. An expiration date, also called a maturity date, is set, and if at that date the stock is trading at or above $400.00, the strike price, you receive the binary cash payoff of $2000.00, as agreed. If however the stock is trading below the strike price, you receive nothing at all.

You can trade binary options on many different types of financial instruments including stocks, commodities, currencies, and more. If you’re familiar with Forex, you can apply binary options trading to the currency market as well. Whereas with a standard FX trade, you simply buy or sell and try to close out at a positive value, you can also opt to do a binary options trade on a currency pair. When you do this, you bet that a currency will close at or above/below a certain strike price at a certain time. If it does, you receive a set payoff. If it doesn’t, you get nothing.

Benefits and Drawbacks of Binary Options Trading

You should be able to see from these examples why it might be advantageous or otherwise to trade binary options. Looking at our Forex example, what are the possibilities here? You could win a set amount of money, possibly a large set amount of money, from a small movement in the right direction; if you lose, all you lose is the amount you paid on the spread. The drawback here is that binary options often have a very high spread. That means that if you aren’t winning most of the time, you still can lose a lot of money fast. Should you trade binary options or not? That depends on your trading style and whether they appeal to you. As with other forms of trading, there is a certain amount of luck involved with all of your binary options trades — but there is also room to use skill and intuition to become profitable. Check out the rest of our articles on binary options trading to figure out if binary options trading may be right for you.