Binary options are a type of financial instrument that pays out a predetermined amount if the principal market moves above or under the strike price within a certain time.
In binary options, the greatest prospective loss is controlled and known ahead of time, which is a huge advantage.
They appeal because they are straightforward. You know precisely how much you could win or lose before you make the trade.
You can trade binary options on a stock price, such as Amazon and Facebook.
Types of stock binary options
1. Up/Down options: When an investor has confidence that at the expiry of the options agreement, the strike would be below the market price, he buys a “call.” “Put” options are bought when there is a forecast of the market finishing below the strike price at the close of the contract.
This type of binary option usually has lower payouts and expires within an hour or a day.
2. Touch options: In a touch option, a trader buys an option that pays out if the market price of the asset bought meets the stated target price at least once before the expiration date.
Touch trades are available at specific times of the day, and some brokers provide them on weekends, with bigger rewards (about 250 percent to 400 percent of your risk premium) than a standard Up/Down option trade.
3. Range option: Traders employ range options to predict whether an asset will stay within a given price range for a set time.
This kind of option usually has the highest payouts of around 200%-750% and is best used when the volatility is low in the market.
Trading stock binary options
Firstly, there must be a choice that is made concerning the time of expiry of the trade. This can be an hour or two or even a week, depending on the time of one’s liking.
Second, there must also be a choice made on which binary option is going to be used. Is it a call or a put? If there is a forecast that the price will go above the current price: you click the buy/call button.
Subsequently, If there is a prediction that the price will end up below the current price: click the sell/put button.
After there is a trade that has been made, wait for the results. If the trade expires ‘in the money,’ you make a profit. If it expires ‘out of the money,’ you’ll take a loss.
From the explanation above, it’s clear that the binary option presents two possible outcomes. The investor is the one who sets the outcomes after he has clearly understood them before he starts trading.
Now here is an example: You purchase a Google binary option for $25, with the opinion that within 2 hours, Google’s shares will be higher than they currently stand.
If you are correct, you get a previously set percentage return on your investment (e.g., 82%), should the shares go lower, you lose your investment (some brokers will give you back a small amount as a “refund”)
Stock vertical spread options
This is an option spread strategy whereby there is purchase and sale but at the divergent strike prices at the same time of a sum of options that have a unique class, unique principal security, and unique date of expiration.
A vertical spread is a directional strategy made up of long and short puts/calls at different strikes in the same expiration.
Vertical spreads allow us to trade directionally while clearly defining our maximum profit and maximum loss on entry.
Risks involved when trading options are usually limited if there is an implementation of vertical spreads. On the other hand, the prospects of making profits are reduced.
They can be created with either all calls or all puts and can be bullish or bearish.
Bull vertical spreads options
A bull call spread consists of one long call with a lower strike price and one short call with a higher strike price. It is an options strategy used when the investor expects a moderate rise in the price of the underlying asset.
A bull call spread would not be used if the principal was expected to rise in price since much greater profits could be earned by simply being long on the call.
However, if the stock is only expected to increase moderately, then the bull call spread is a good way to profit from the moderate price increase while limiting downside risk.
Bears vertical spread options
A bear put spread is a type of vertical spread. It involves the purchase of one put in hope of profiting from a decline in the principal stock and writing another put with the same expiry, but with a lower strike price, as a way to offset some of the cost.
The spread would be an effective means to profit from a moderate decline in the price of the principal while limiting downside risk. Like the bull call spread, the maximum profit will be equal to the difference in the strike prices minus the net debit of entering into the spread.
Pros and cons
For an investor to be able to lower the cost of certain trade and the risk that the trade will involve, it would be to his benefit to implementing vertical spreads. Similarly, investors whose trading strategy is to make money through premiums while limiting their risk and potential reward would be well advised to implement vertical spread options.