binary Options
Now you are reading
Binary options and CFDs and the Forex market - Differences and similarities

Binary options and CFDs and the Forex market - Differences and similarities

created Paweł Mosionek13 February 2019

Binary options are a financial instrument, which almost a decade ago became an alternative to traditional Forex transactions for people starting their adventure with trading. But from the beginning.

Retail investors on the currency market are dominated by Spot or CFD (contracts for exchange differences), which is what we deal with most currency brokers. They are followed closely by futures contracts, which in the case of currencies are dominated by the CME exchange (Chicago Mercantile Exchange). In Great Britain, for tax reasons, and more precisely due to the lack of taxation of these transactions, the so-called spread betting (CFD variant). Until recently, options were associated only with vanilla options, which is a rather complicated instrument, mainly used to hedge against exchange rate risk by large exporters.

Binary options, as an instrument very simple in its structure, gained popularity very dynamically in 2011, when more and more companies offering these instruments, and even specializing only in them, began to appear on the market. Binary options undoubtedly have their advantages, but also disadvantages. Their simple design, on the one hand, reduces the risk, but on the other, it also cuts the "wings" of traders with great potential, hence they are usually addressed primarily to beginners.

Due to changes in European regulations, these instruments are not available from brokers in the European Union from July 1, 2018.

How binary options work

The rules are simple. Our task is to choose the direction in which the exchange rate of a given currency pair will move in a given time. The easiest way to illustrate this is with an example.

We believe that the EUR / USD exchange rate will increase within the next 10 minutes, then we make the purchase (Call option). After 10 minutes after making the transaction, if the EUR / USD rate is even higher than the 0.1 price, then our option closes with a profit. The same applies in the case of sales (Put option), where it is enough for the course to descend by a minimum value below the option exercise price.

There are no terms such as flight, transaction volume or security deposit. Our volume is the amount we invest in a given option. You can start trading with 1 PLN and that's how much you can bet on. Depending on the broker we can receive from 70% to 90% of the invested amount if successful.

We also determine the duration of the option, where usually the lower range starts from one minute and ends on one day (it can also depend on the broker).

Limited risk and limited profits

There are no orders on the options Stop Loss or Take Profit. We can only lose as much as we have invested in the option - no less, no more. Therefore, we are not afraid of price gaps, slips or lack of liquidity in the market. Our order will be executed anyway, and the scale of the loss is known in advance.

In return, we can gain up to 70-90% from the amount invested. The downside is that even if we predict the movement of the instrument's course correctly, regardless of the scale of the movement (no matter if it is 1 pip or 1000 pip), we will always earn the same amount.

Spot / CFD transactions / binary Options

Spot / CFD binary Options
Leverage 1:30 -
Min. Volume usually 0.01 lot 1 USD
Unlimited profit YES NEVER
Unlimited loss *YES NEVER
The possibility of debit *YES NEVER
Pending orders YES YES
Commission Spread and / or commission bonus option
Any transaction time YES NEVER

* Only when using a broker who does not guarantee overdraft protection.

Leverage and binary options

When trading on binary options, the leverage is unnecessary, because the construction of this instrument makes it closer to betting than to investing. Either we will be right and take the "pot" or not and the amount invested is forfeited. Hence, it does not occur at all.

The minimum transaction volume on options

Therefore, the volume is expressed in the invested, non-leveraged amount that we bet on a given transaction. There is no concept of flights here, only the cash that is allocated to our "bet".

Unlimited profit / loss

Some may say that binary options are gambling. Perhaps they are partly right, but it depends mainly on us how we will treat it. Appropriate risk management can pay off and create an interesting investment tool, e.g. trading in periods of increased volatility when it is easier to predict the direction and difficult scale of traffic.

Therefore, on options we can limit the risk of loss to the amount set, but in return we also limit our profit by being able to gain only an appropriate percentage on our investment.

The possibility of debit

Despite the existence of many hedging mechanisms in the Forex market, playing carelessly with a large use of the leverage in sensitive moments may happen the situation of debit entry (assuming that our broker does not offer a guarantee against such a situation). When trading on options, there is no such risk and it can be simplified that the options themselves are a safer tool for multiplying funds in less hands of a less secure investor.

Pending orders

There are similarities. Options for buying and selling CFDs are analogous Call i put. There are also pending orders so that we do not have to wait all day for transactions with parameters that interest us. Naturally, due to the limited profit and loss in advance, there is no Stop Loss and Take Profit.

Binary options and commission

When Forex usually deals with a variable spread, and sometimes also with a commission on the value of the order, it is simplified on the binary options to an option premium, which is known in advance and results from the amount invested.

Any transaction time

Unfortunately, we do not take advantage of the options. While we can choose the investment period almost every minute, it's hard to call it freedom. The minimum is usually 1 minute, and a maximum of one hour or for some brokers a few hours. On the one hand, this is a sort of way to stick discipline and not to combine after the transaction, but on the other hand limits our room for maneuver, and sometimes the seconds are crucial.

Watch out for the broker

From the beginning of the rash of companies providing trade services on options, a large part of them managed to go bankrupt, and some of them ended their operations just to start it again under another brand. This has reduced confidence in these intermediaries and thus should sharpen the investor's senses before choosing your company.

What to look for?

  • good access to customer service - many channels to contact the service, the company's address is provided on the website,
  • regulations to which a given company is subject - if it does not boast of any license number or the name of the regulator, be careful. Such a business can be closed in one day.
  • guarantee fund - usually its amount results from the regulations to which the company is subject. In the European Union, it is 100% of the amount up to EUR 3 and 000% of the amount up to EUR 90.
  • customer opinions - it is worth browsing the internet forums and see if the company does not complicate or extend the withdrawal of funds.
What do you think?
I like it
Heh ...
I do not like
About the Author
Paweł Mosionek
An active trader on the Forex market since 2006. Editor of the Forex Nawigator portal and editor-in-chief and co-creator of the website. Speaker at the "Focus on Forex" conference at the Warsaw School of Economics, "NetVision" at the Gdańsk University of Technology and "Financial Intelligence" at the University of Gdańsk. Twice winner of "Junior Trader" - investment game for students organized by DM XTB. Addicted to travel, motorbikes and parachuting.