WHY SO FEW FOREX BROKERS OFFER BINARY OPTIONS? THE SHORT ANSWER
In response to Trading Thursday’s ECB Press Conference Using Forex Binary Options, one of my more astute readers on seekingalpha.com, known only as danfx, asked the obvious but neglected question, why don’t forex brokers offer binary options?
For those who missed it, here’s a short answer that I gave. I hope to follow up with a more comprehensive look at the pros and cons of binary options and the kinds of trading and traders for which they are best suited.
Here are just a few of the reasons why traditional spot market brokers of forex, stocks, stock indexes and commodities do not offer binary options:
First, the product is relatively new to the retail trading market
Second, compared to binary options, traditional spot forex, commodity, stock and stock index trading, is in admittedly in many ways a much better deal…… for the brokers, who are after all in business to maximize their own profits.
Relatively few traders have the combination of discipline, trade planning, and risk management skills needed to succeed with highly leveraged instruments and exploit the advantages of spot market trading over binary options trading. That simply puts the odds more in favor of the traditional spot market brokers.
As most experienced short term traders know from painful experience, it’s so easy for traders to be right about the trend, yet wind up losing their money to the brokers (many of whom take the opposite side of the trade) anyway because:
- They have a 100:1 or more leveraged position stopped out by a normal ~5% move against them which means a 500% hit to their account equity. Without careful position sizing and adequate planning for reserve capital in their accounts (and few understand the need for large capital reserves with these kinds of high leverage), that kind of temporary move against a trader could result in a margin call that closes their position before the trend they correctly forecasted turns in their favor
- the fear provoked by a temporary 500% loss scares many into exiting their trades before the trend they correctly foresaw can develop
In contrast, binary options are in many ways a better deal for traders than brokers:
- Binary Options require little work beyond
- forecasting the trend over a given time period (that by itself is by no means simple, but it’s quite achievable most of the time once one has some skills and experience in reading technical and fundamental indicators). Traders who believe that trend will rise over the selected expiration period buy a call option. Those who believe the opposite buy a put option.
- Understanding what position size and time frame is most appropriate given the trader’s cash reserves and specific market conditions.
- Maximum loss is fixed, eliminating the risk of unanticipated gut wrenching losses from sudden price gaps that even a carefully planned stop losses can’t prevent
- Yet despite their ETF- like simplicity, ‘BOs’ yield typically 70% profit on winning trades, regardless of how small the move in the trader’s direction
- Binary Options take much of the emotion out of trading because most have no option to exit the trade before expiry (except for the options+ type binary options offered at anyoption.com). That eliminates the psychological stress so many endure when deciding whether to exit a position that has turned against them. Indeed many find it best to walk away from their computers once the trade has been placed.
In sum, if used intelligently, binary options can move the odds of success closer to the trader at the expense of the broker because they combine ~70% profit potential in even very short time frames (when moves tend to be very small) regardless of how small the move in your favor, without the psychological stress and effort arising from:
- The need to decide whether to cut losses too early or
- The need for demanding and time consuming trade planning and risk management
Of course BOs have their limitations and are not panaceas. There is certainly an elite group of traders that are able to prosper handsomely exploiting the advantages of spot market trading in forex and other assets. What sets them apart is that they have: the requisite risk appetite, skills, and experience to:
- successfully plan trades
- manage the risks of leveraged trading
- forecast trends
- know when to abandon a position quickly and when to resist the pressure to exit positions prematurely
Stay tuned, I’m planning a more comprehensive look at the pros and cons of binary options, they’re new to the retail market (institutional traders have been using them for years) thus there is little serious material about them that is easily available. That means a lot of original research & thinking yet to do before then.
For further information, just search ‘binary options’ and brokers. Most have some kind of free educational materials, though beware most of it is very superficial and feels more like sales material than real trader education. The material at anyoption.com is among the best currently available (though still needs of work IMHO). To find it go to www.anyoption.com, scroll all the way to the bottom of the homepage, and look at the second line of links in blue, and click on the ‘Binary options blog’ all the way to the right.
Full Disclosure, I work for anyoptions.com and as Chief Analyst will eventually get around to improving and expanding this archive of material.
For first access to the latest articles on a wide range of markets and the key forces driving them, consider subscribing to my website, http://globalmarkets.anyoption.com/.
DISCLOSURE & DISCLAIMER: AUTHOR IS SHORT THE EUR FOR PERSONAL PORTFOLIO. THE ABOVE IS FOR INFORMATIONAL PURPOSES ONLY AND NOT TO BE CONSTRUED AS SPECIFIC TRADING ADVICE. RESPONSIBILITY FOR TRADE DECISIONS IS SOLELY WITH THE READER
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