Please note that post-ESMA, Binary Bets are only available to professional clients in Europe.
Another one of the newer forms of trade that we can make is a ‘binary bet’ (mainly available from Deriv).
Binary betting represents a way of speculating on the financial markets that is a simple alternative to financial spread betting and in contrast to spread betting with binaries your risks are limited to the point that you know exactly how much you stand to gain or lose when you open the binary bet. These trades can be placed on Shares, or FX (Foreign Exchange – money to you and me) quotes.
Binary betting allows you to take a simple view on whether you think a market is going to be up or down by a certain time. The key difference between this and a normal spread bet is that you know from the outset exactly what your maximum loss would be and you also know the maximum gain you could make. The word binary means dual or twofold, hence there are only two outcomes, the event will or will not occur. All Binary bets are quoted on an index between 0 and 100. Just like a spread bet you buy or sell for a certain amount per point depending on your view.
Instead of being priced directly in relation to the underlying financial instrument, a binary bet is priced using options pricing criteria and values can thus be computed in a way that is more reminiscent of a traditional fixed odds bet. So in this respect a binary is similar in workings to a fixed-odds bet, but where odds are quoted on a scale between zero and 100 rather than in a fraction such as 4-1. Please note that binary bets are usually only available during trading hours.
Binary betting sees a speculator able to place a bet on any stock, commodity, or forex. A price is offered and it can either be backed to come in higher after a fixed time (a Call), or lower (a Put). So as you can see binary betting is similar in style to that of fixed odds with the ability to limit your risk with a fixed return on particular outcomes to that trade, such as the FTSE to be down on the day or the DJIA (Dow) to be lower at the close. As with most trades you can close the trade early whenever you like.
Binary betting combines skill and strategy while bringing in an element of fun into the equation and the simplicity and quick-fire buzz renders this product somewhat unique.
Please note that binaries are not offered by all companies and is usually only available for the major markets like key Index markets and main currency pairs. Before I explain what it is let me stress that you do not have to use this form of trading (to be honest I don’t use them often) but I explain it because it is available. I can see one advantage and that is when the market is particularly quiet and you wish to trade simply on whether it is up or down by one point or more by a certain time. Having said that, it is possible to close your bet at any time during the trading day.
How Binary Bets Work
It’s actually relatively simple as there are only ever two outcomes, which are either ‘true’ or ‘false’, or depending on your way of thinking, ‘yes’ or ‘no’. As with spread betting, a correct prediction will result in profit for the speculator, whilst an incorrect prediction will result in a loss. Let me explain.
Say you open a binary bet for the FTSE to close up (be higher than its opening price) on the day (close of business at 4.30pm), there are two outcomes as follows:
- The FTSE closes up on the day, the bet will settle at 100
- The FTSE fails to close up on the day, the bet will settle at 0
Let’s look at an example of a binary bet -:
You decide that the FTSE 100 Index will be up by 10:00 a.m. and the spread offered for this binary bet is 48-52. To bet that it will be up you need to buy at 52 and you decide to do £2 per point.
The FTSE does go up by 10:00 a.m. so the bet expires at 100 (you are correct). You win 100 – 52 points = 48 points x £2 = £96.
If the FTSE were to go down by 10.00 a.m. the bet would expire at 0 (zero) which means you lose 52 points x £2 = £104.
You can make similar bets on whether the Index will be up or down by the market close or even year-end.
If you decide to close your bet before it expires (before the event happens) you will close at the spread price available at that time to realise any profit or loss.
The spread will move throughout the day based on how close the market is to going up or down by the deadline time. For instance, let’s look at the Dow. It opened at 10,440 and you want to place a bet that it will close up today (10,441 or higher). Ten minutes after the open the Dow is at 10,430 and the binary bet spread might be 85-89. You would make 19 points if you are right but lose 89 points if you are wrong. You decide to leave it.
After a few hours the Dow drops to 10,390. You are still convinced that it will close up on the day and the binary bet spread offered now is 35-39. Now if you win you will make 61 points (100-39) and if you are wrong you will lose 39 points (39-0).
So as you can see with a binary, the value of the bet expires at either zero or 100 depending on whether or not a predefined condition is met within the allotted time frame. You either win or lose, with binaries there is no grey area of making a few points of profit, or indeed a spread. If at the end of the lifetime of the binary trade, the market level exceeds that of the start date (irrespective if by 1pt or 50pts), the binary bet will settle at 100. Should the closing price at expiry end up lower, the binary bet will settle at 0. So the closer the market price to 100 when the binary bet is opened, the shorter the ‘odds’ that the market will close at a higher price than the day before.
The key difference between making a binary bet as opposed to making a fixed odds bet, is that you can close the binary bet when YOU want. With fixed odds you do have to wait for that trade to expire. Which means you will be either able to cut your losses or take profit early without having to wait for the market to close. As the spread betting company, or broker or bookmaker – depends what you want to call them, tend to quote a continuous price, similar to that of spreads.
The binary ‘price’ is constantly fluctuating reflecting market sentiment at any particular point in time and the probability of the outcome materialising. As the prices are quoted continuously you can decide to go Long or Short on any price that is quoted. Binary bets tend to fluctuate quite a lot, especially prior to expiry but you are safe in the knowledge that you know your risk exposure and your possible reward.
Another Binary Betting Example:
It might be best to demonstrate the workings of binary betting by an example. Suppose you have noted that the FTSE 100 has retraced from its opening level, but you believe that it will rise back later in the afternoon. The binary price for the FTSE 100 to rise before the markets close is presently trading at 31 to 35. If you reckon that the FTSE 100 is likely to finish up at the end of the trading day, then you could buy at 35 for a determined amount per point, let’s say £30. On the other hand, if you believe that the FTSE 100 is likely to finish down you would sell at 31.
Your gains are computed by taking the closing price minus the opening price level multiplied by the stake per point. So, in the instant that you placed a £30 per point on the FTSE 100 to rise before market close; if you were correct then you would stand to win £1,950 [(100 minus 35) x £30]. However, if the FTSE 100 had finished down, then your losses would have amounted to £1,050 [(0 minus 35) x £30].
Let’s suppose that after the next few hours of placing your ‘buy’ binary, the FTSE 100 market remains fairly static but hovering up by about 40 points. The FTSE 100 ‘Up Binary Bet’ now is being quoted at 80.2 – 84.2. You decide to take your profits before expiry by selling £30 at 80.2 (a 45.2-point movement from 35 in your favour). Or you might decide to hold out until the close of trading to see if the bet settles at 100.
Betting in a Trendless Market
Incidentally, an advantage of utilising binaries over other trading products is that binary betting provides you the opportunity to take advantage of non-volatile markets and ranging markets, as well as markets that are constantly rising and falling. Spread betters of indices for instance would ideally like the markets to take a definite direction, either up or down to make easy money. The thing with spread betting is that unless a market is trending, there is little benefit to anyone holding the position – not so with binaries.
One of the main differences between spread betting and binary bets is that with binaries your maximum profit and loss are always known at the outset (before placing the bets). This is so because the binary market cannot rise above 100 or fall below 0 – as opposed to spread betting, in which there is no cap on your profit and loss potential beyond the deposit you provide. Another difference is that with binary betting, prices are not based on the underlying price of the asset in consideration, but instead these depend on the probability of the market closing higher or lower than a particular fixed point in time. That’s why the buy/sell price of a binary bet is always quoted between 0 and 100.
The type of binary Bet that you can place are as follows:
Up/Down
Quite simple really, you either decide if the market is going to be up or down on the close of business that day. So for instance, a FTSE up bet might have a price of 52 – 55. If the condition is met i.e. the FTSE close closes higher on the day – then the bet will expire at 100 (otherwise the bet will expire at 0).
Range Forecast
Range bets simply have two prices that create a lower and an upper range which will create one out of two possible outcomes.
I have taken the following from IG Index’s website as it’s a good example of how a binary bet works. Other sites have tended to make it sound too complex.
Example: ‘Buying’ a FTSE 0/–10 Binary.
It is 4.17pm, and the FTSE 100 Index currently stands 11.6 points higher than the previous afternoon’s official closing level. You are not confident that the FTSE will be able to hold on to the day’s gains, and see that our price for a binary bet on the FTSE finishing down by 0 to 10 index points is 6.6/9.2.
So you buy the FTSE 0/-10 Binary for £20 at 9.2.
At this point you know precisely what your maximum potential loss is: if you are wrong and the binary makes up at 0 you will lose 9.2 x £20 = £184. You also know that if you are right your return on the bet will be (100 x 9.2) x £20 = £1816. This represents nearly a 1000% return on your risk, decided in the next fifteen minutes.
Eight minutes later, the FTSE has dropped back slightly to 2.4 down on the day, and our quote for the FTSE 0/ñ10 Binary has risen by over 40 points. You think there may be some more market shifts to come, and decide to take your profit now. You close out your bet at our bid price of 48.8.
Your profit on the trade is:
Closing level 48.8
Opening level 9.2
Difference 39.6
Profit: 39.6 x £20 = £792
You were right to be concerned, as the FTSE returns to positive territory in the final minutes of trading, closing 6 points up. The FTSE 0/+10 bet settles at 100 while all remaining binary bets in this package settle at 0. By taking your profit early you have made a 430% return on your risk, and all in the space of a few minutes.
Types of Binaries and Custom Bets
Binaries don’t need to be simple up/down bet propositions -:
High Target: This is a binary bet speculating that the market will end up in a positive range, say the Dow up by 50-60 points.
Low Target: This is a binary bet speculating that the market will end up in a negative range, say the FTSE down by 40-50 points.
Ladder: A binary bet that the market will close above or below a pre-determined level.
No Touch: A binary bet that the market doesn’t breach a pre-determined level at some point before the bet’s expiry date.
One Touch: A binary bet that the market hits (i.e. touches) a specific level at some point before the bet’s expiry date.
Binary bets and custom bets do have a place in our trading arsenal and are a welcome addition to the products that we can market as they offer great flexibility.
Predominantly binary trades are good for trading ‘bounces’, I will be explaining what a bounce is much later in the course, but for now, a bounce is simply where a stock reaches an excessive position whereby we can judge to a good degree when the stock will ‘bounce’ up from a position, or down from a position. This style of trading is best suited to volatile stocks, trading over a very short term period. Mostly less than a day.
It is worth noting here that similar to spread bet returns, binary betting profits are also tax-free although the providers offering these products are not regulated by the FSA (they fall under the ‘Gambling Commission’). Binaries and financial betting as such are still relatively new offerings and companies keep improving their fixed odds betting offerings in an attempt to encourage further take-up of the product by inexperienced and sophisticated traders alike.
One thing to keep in mind is that products like binaries and custom bets require more dealer intervention with pricing models having to be adjusted constantly to take into account fundamental changes in the underlying market. I will be explaining more later in the course and showing you how to take advantage of all the differing tools that you have at your disposal As well of course, as covering our techniques that we use to spot the trades in the first place.
