THE rising popularity of binary trading in the financial markets underscores the unmet need of the ordinary investor to invest in instruments that are simple, straightforward yet can still deliver high returns. For years, a lot of people have been shying away from the Forex, equities and futures markets because of the complexity and high risks involved. With the development of various binary trading schemes available today, retail traders now have another investment that meets a lot of their needs.
Binary trading actually means placing an amount in an all-or-nothing investment arrangement where the investor is paid or not paid with an agreed amount if a proposed event does or does not occur at end of a given period. Binary trading is similar to a betting scheme where there only two possible choices and the bettor gets all or nothing depending on the results of a bet.
In the financial markets, stock, Forex and future traders engage in binary trading based on specific performances of industry related indicators. In the equities market, the object of the bet could be a specific stock issue or in the case of futures, the price of a particular commodity (gold, oil, etc.). Binary trading on the foreign exchange market meanwhile is usually focused on the foreign currency price direction (up or down) changes.
A simple example of a binary trade in the Forex market would be of a trader who thinks that the price of the US Dollar will close higher against the Euro by end of the week with the Forex rate EUR/USD 1.2500 as the list price to be bet on. The trader also bets $ 250 that the US Dollar will end higher and $ 100 if the US Dollar ends lower. If the US Dollar does close higher, the trader wins $ 250 but if US currency ends up lower, the trader loses $100. This type of binary trading is popularly called the up or down, where the bet is based on the upward or downward performance of a currency pair.
For a trade to be considered a binary trading arrangement, there are key elements that need to be present:
a.) The asset or the object.
In the previous example of binary trading activity, the asset referred to is the foreign exchange pair, specifically the EUR/USD. In other financial markets such as the stock market, the assets subject to binary trading are stock issues or various types of commodities-type such as gold, silver or oil)
b.) Expiry period
Binary trading arrangements need to have an expiry period. The time period can be set in terms of hours, days, weeks or even months. Bets using the binary trading system cannot have open-ended contracts although bets can be reactivated for another round of betting as soon as the previous time period expires.
c.) Movement direction
In foreign exchange binary trading, traders place their bets on the possible price movement and direction of a specific currency pair. This can be down or up as the example previous EUR/USD has already shown. Other binary trading arrangements focus on the range of price movement and not on increases or decreases.
Upsides and downsides to binary trading
Binary trading like all transactions has its upsides and downsides which are as follows:
A. Binary trading benefits
- Managed risks – Unlike other financial trading practices, binary trading offers investors the ability to manage their risk as the outcome is already determined eliminating any uncertainties that may wipe out their accounts. Under the binary trading scheme, the trader already knows how much he is going to lose or win. Nothing more, nothing less
- Higher returns – Since any loss is already factored in the picture, a trader can use smaller amounts to win big. In Forex binary trading, it is the movement not the magnitude or volatility that’s being contested.
- Simplicity of trade – As already mentioned earlier, binary trading has only two outcomes. This makes due diligence much easier than trying to predict how much gains are to be made.
- Low entry barriers – For as little as US$ 100, traders and retail investors can participate in various binary trading deals. A small time trader will gain the same profit returns as that of the big corporate participating in the trades
B. Binary trading pitfalls
- Short term strategy – Many people think that binary trading while attractive, simple and quick, is not a very good long term strategy in terms of really creating wealth in the long run for retail investors
- Casino-mentality – The simplicity and low barrier entry requirements to participate in the binary trading market encourages a ‘casino-mentality” where people who participate in the market think everything is like a huge gambling activity with little need for fundamental and technical market consideration.