Binary options trading is very similar to betting in many ways and, as a result, some may view binary options trading as closer in form to gambling than it is to financial investing. So, which is it?
In this article, we will review binary options trading and discuss why trading this type of financial instrument should be viewed as investing rather than betting.
A binary option is fixed payout, limited risk financial instrument that enables its purchaser to speculate on whether the value of a stock, foreign exchange rate, index, or commodity will increase or decrease in value by the end of a predetermined period of time.
It's essentially a contract between two parties in which the issuer offers to give the purchaser a fixed payout if the asset, for which the contract is written, performs in a certain manner by the end of a certain length of time.
In order to fully understand the functionalities of this financial instrument, let's take a forex binary option issued for the Euro-US dollar exchange rate (EUR/USD) as an example.
In this case, let's say that this forex binary bet offers an 80% payout and has an expiry of one hour following its execution. If the purchaser takes the position that the exchange rate will be above its current rate, invests $100 and executes the trade, he or she is essentially saying 'I believe the EUR/USD rate will increase in value in one hour's time.'
If at the end of the hour, the exchange rate is above its previous rate at execution, the option finishes in-the-money and pays out $180, which results in an $80 profit ($180 payout - $100 investment).
If the exchange rate at expiry is below its previous rate at execution, the option finishes out-of-the-money and the $100 investment is lost (note: some binary brokers offer out-of-the-money payouts of up to 15% of the investment amount).
In sum, a binary option contract is an all-or-nothing financial instrument based on the value of several classes of underlying assets that offers its purchaser two possibilities: 1.) Payout if successful; or 2.) No payout if unsuccessful.
Some people may find it difficult to choose an asset they wish to invest in. Should you wish to get better at trading, you must be wiser to know that it is always better to trade in favor of you and your advantage.
While a demo account is readily available to you to test your trading skills and for you to get a better feel of what it’s like, your understanding an knowledge of a certain asset or stock will provide to be very important in your success in the trading industry as they will come in handy at times when a critical financial decision has to be made. When the time comes and you need to choose which asset or stock you wish to invest in, think of something that is very close your heart, something that you are really passionate about.
For example, if you and your Facebook app are totally inseparable because of the funny videos you could watch while waiting for your Uber, why not choose Facebook as your asset? You may want to allot a time when you can do an in-depth research so you would know more about Facebook and how its management works. You can track how good or how bad they have done in the past solely basing on its financial history in the stock market. By the time you are done doing your research, you will already have made an unconscious decision whether or not Facebook is something you really wish to be investing in.
Since the value of a binary option is based solely upon the value of the underlying financial asset for which it is issued, there are several ways to invest in binary options based on sound market analysis and research that can be conducted on the underlying asset. In this way, trading binary options offers one the ability to base one's decision on a wide body of financial data before making a trade and thus differs from betting.
In order to elucidate more clearly why binary options trading differs from betting, let's take the example of a binary option issued on the value of gold.
If the financial markets begin to experience serious volatility following an unusual event that spreads fear and uncertainty among investors, previous experience has shown that this will usually generate a profound increase in the demand for gold as investors liquidate their “more unstable” financial holdings in favor of 'more stable' investments such as gold. This increased demand usually results in the increase of the price of an ounce of gold, since we know that based on the laws of supply and demand, the higher the demand for a product, the higher the likelihood that the price of the product will rise. As such, during a period of high market volatility, it may be profitable to speculate that the value of gold will increase by investing in a gold binary option.
Betting does not offer the ability to use the aforementioned logic since betting implies simply entering a wager based upon the uncertain outcome of any event. Binary options allow for one to conduct analysis as to the potential strength or weakness of a financial asset and thus allow one more of an edge in determining a future outcome.
It must be conceded that binary options are high risk, high return financial instruments and thus may risk and returns from binary options trading may resemble those associated with betting. However, trading binary options is no different than many other forms of speculating on the financial markets such as vanilla options trading, futures trading and more and should thus not be considered anything other than financial investing.
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