When you purchase a binary option, your task is to correctly predict if a stock price, index or any other asset will be over a certain price level at a predetermined date in the future. The details – such as which stock, which date and which price level – are outlined in the binary options contract.
If your guess turns out to be correct, you will get fully paid either in cash or by becoming the owner of a pre-specified asset. If your guess turns out to be wrong, you lose the money you used to purchase the binary option. There is no pay for being “almost right”. This is why it’s called a binary option – there are only possible outcomes.
When speculating in binary options, you can never lose more than the money you used to pay for the binary option. If you pay $5 for a binary option, this is exactly what you stand to lose.
Just like other options, the binary options becomes worthless on its expiry date.
Binary options are marketed under several different names, including Fixed Return Options (FRO), All or Nothing Options and Over/Under Options. Binary options connected to the currency market (forex market) or bond market are often referred to as Digital Options, even though they aren’t exactly more digital than any other binary option. Read more about the many names of binary options and what they mean by visiting binaryoptions.net.
Cash or nothing binary option
A cash or nothing binary option is a binary option where your reward for being right is cash.
Example: You purchase a €5 binary option stating that the share price for Merck will be over $65 on NYSE closing exactly one week from now. This option states that you will be rewarded with €500 if your prediction comes true.
On the option’s expiry date, the closing NYSE price for Merck turns out to be $70. You are awarded €500 in cash. If the closing price had been $166 or even $10,000 you would still “only” have gotten €500. You are only betting on the price being over $65 – you do not get any special bonus if the stock price goes much higher than that.
Asset or nothing binary option
An asset or nothing binary option will reward you with a specific asset if your guess turns out to be right. In many cases, the asset you get will be the underlying asset for the binary option.
Example: You purchase a $5 binary option stating that the share price for Company XYZ will be over $65 on NYSE closing exactly one week from now. The option states that you will be rewarded with one Company XYZ share if your prediction comes true.
On the option’s expiry date, the closing NYSE price for Company XYZ is $70. You are awarded with one share in Company XYZ. If the price had been $65 or less, you would have gotten nothing.
Why buy binary options?
One of the reasons behind the popularity of binary options is that you can find plenty of binary options that offers a large potential reward for a small amount of money down. Unlike leveraged investments, which also offers potentially large rewards for a small amount of money down, you can never lose more than the purchase price when you purchase binary options.
If you invest directly into stocks, you will typically make a smaller profit.
Example: Robin and Jamie both strongly believe that the share price for Merck will go up tomorrow. Right now it is at $65 but they are confident that it will have gone up to over $70 by the time NYSE closes tomorrow. They have $130 each to invest, either in shares or in binary options.
- Robin invests $130 in shares and becomes the owner of 2 shares in Merck.
- Jamie finds a writer that is willing to sell a binary option for $5 that will pay $50 if the stock price of Merck over $70 at NYSE closing tomorrow. Jamie buys 26 binary options.
The next day, the Merck share price at NYSE closing is $80.
- Each of Robin’s shares have increased in price from $65 to $80. That is a total increase of $30.
- Each of Jamie’s binary options has paid out $50. That is a total pay out of $1,300.Jamie is not the owner of any shares. Jamie will not make any more from this position. Robin on the other hand can hope to make a larger profit buy holding on to the Merck shares, but that also comes with the inherent risk of them losing value rather than increasing in value.
If the Merck stock price would have been $69 at NYSE closing, Jamie would have lost $130. Robin would have owned Merck shares that had gone from a combined value of $130 to a combined value of $138. So, even though the stock price never reached over $70, Robin’s investment would still be looking good. If it would turn out to be profitable investment or not we would not know until Robin sold the shares.
Never borrow money to buy Binary options
When you invest in other types of financial instruments it can be a good idea to borrow money to leverage your investments. It is never a good idea to take a loan to invest in binary options. If you feel the need to borrow money to invest in binary options you might have developed an addiction and you should consider whether it is time to stop trading for a while. If you use payday loans to invest in binary options you can very quickly do a lot of damage to your future economy. If you decide to ignore our advice, DONT, you should at the very least make sure that you get the cheapest loan available on the market. The quickest way to do this is to use a website such as bankrate.com or snabbalån.com.
Binary options have many similarities to casino games, poker and sports betting. Trading in binary options can create a similar type of gambling addiction.