How Do Binary Options Make Money?

fair-tradeTraders investigating binary options trading as a way to potentially make money need to gain an understanding of how they work. The can provide investors with an instrument for speculating against the price of an underlying asset; this kind of speculative activity can both succeed and fail.

These instruments give traders the ability to profit by speculating on future prices in a number of underlying assets – including commodities like gold, currencies pairs like EUR/USD and stocks like Microsoft. Traders succeed when they correctly predict the future direction of the price of the underlying asset within the specified time period.

How to win at binary options trading

Let’s consider an example. Imagine that you developed a belief that the price of Google’s shares will be higher at the end of today than it currently stands and you wanted to profit from that belief. A good way to capitalize on this view would be to enter a call with a broker. Calls are used to speculate that the price of the underlying asset will be higher at the time the contract expires. In contrast, puts are used to speculate that the price of the underlying asset will be lower at the time the contract expires. In both cases you only succeed if your prediction is correct.

If Google’s share price currently trades at $500 and you believe that Google’s share price will be $520 at the end of the day, to generate a profit you would want to enter into a Google call that expires at the end of the trading day. If Google’s shares at the end of the day are higher than they were at the time that you entered the contract, your contract will be ‘in the money’ and you will generate a positive return on your investment. Typically this return will be in the order of 70-85%.

How to lose at binary options trading

The example outlined above focuses on a set of positive outcomes – outcomes in which the trader succeeds. As with all forms of trading, binary options trading does impose risk, and there is a chance that after entering a trade you will wind up with less money than you started with.

Let’s consider a slightly different set of events to illustrate how you can lose at binary options trading. If Google’s share price currently trades at $500 and you believe that Google’s share price will be at $520 at the end of the day, and as a result of this belief you purchase a call option on Google stock, you will lose money if at the time the option expires Google’s stock price is lower than $500. Typically you will lose 100% of your investment when your binary option expires when the option is ‘out of the money’. So the trick to avoid failure in binary options is to always correctly predict the direction of the underlying asset that is being traded.

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Although trading is not a risk-free way to generate profits – in fact, you can succeed or lose all of your initial investment – these instruments offer the potential for generating massive 70-85% returns within a very short timeframe. Before starting binary options trading it is highly recommended that you do careful research into the range of binary options brokers out there.

 

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