Binary Options v Spread Betting
These two retail-oriented financial instruments often invite comparisons as they both offer the retail customer the gearing only usually available to professional traders. This article draws a comparison between them.
Binary options v spread betting starts off with a look at the background of these two extremely popular instruments.
A Potted History
Spread betting was introduced by Stuart Wheeler, the founder of IG Index, while working on the floor of the old London Stock Exchange. He basically offered futures which had the distinction of a variable tick value. Since then the spread betting industry has flourished specifically in the UK where spread betting profits are tax-free.
Binary options are a more recent retail offering within the financial sector, and also go by the name of binary betting. This form of speculation on the market takes the form of a fixed odds bet on a future asset price. The bet may be that it is above or below a certain price at a specific time in the future when the bet expires, or a range of other specifications, e.g. the asset price has to be between two prices (strikes) at expiry. Other forms of binary options include ‘touch’ options whereby the bet wins or gets knocked out (loses) as soon as a pre-ordained strike is reached.
Explosion in Interest
Although both mainstream futures and binary options have been around for centuries in one format or another, the recent explosion of interest in these instruments from the retail market has been nothing short of extraordinary with the IG Group being capitalised on the London Stock Exchange at in excess of £1bn.. Spread betting led the charge but binary options have been peddling fast and, as can be observed from the following Google Trends graph, have comprehensively outstripped spread betting in Google searches.
Can this generation of interest continue one wonders? Nadex, the Chicago-based binary options exchange and 100%-owned subsidiary of the IG Group, on 8th April announced its First Quarter 2014 volume had increased by 49.8% over the same period in 2013. This is a good increase but not breathtaking bearing in mind the novelty of the instrument; derivatives markets growth generally increases exponentially in its early stages so the same number next year is likely to be higher. The retail OTC binary options market appears to be going from strength to strength also. Yet what is likely to drive further interest and higher volumes of binary options trading is the increased sophistication of the products on offer.
Binary options at present are traded at the opposite ends of the spectrum in terms of product and trader sophistication: at the most unsophisticated retail extreme the Over & Under instruments dominate, at the most professional interbank FX market extremity barrier options dominate. Between these two extremities is a void which is likely to be closed by the more professional and sophisticated binary options on offer to the retail customer.
As the competition between platforms hots up the returns on offer to the traders will become more competitive attracting the more discerning day trader to the party.
At the same time the platform providers will have to up their game in terms of instruments on offer; the Over & Under will become mundane. In mainstream conventional option markets perhaps +80% of volume is in the form of structured options strategies such as call/put spreads, straddles and strangles, butterflies and condors so it clearly makes sense for binary options platforms to broaden their portfolio of strategies they offer.
The binary options market is no flash-in-the-pan, it is going from strength to strength with a big gap to fill between recreational retail user and the most sophisticated financial market in existence, the interbank FX options market. Exciting times lie ahead………….