Japanese Binary Options Review 2015
The Japanese Binary Options Review 2015 is now available following the FFAJ’s release of the Dec 15 binary options statistics for Japan. Unfortunately the numbers do not make pleasant reading for the brokers, represent customer dissatisfaction, and ultimately leave the regulator with an awkward decision to be made over the duration of a binary option.
Volumes and Accounts
The following data is provided by the Financial Futures Association of Japan (FFAJ), which it received in turn from the eight regulated brokers in Japan.
The following chart shows total volumes from 2014 and 2015.
Binary options in Japan are a fledgling industry, volumes should be showing healthy month-on-month increases regardless of market conditions; the above graph illustrates that volumes are not even increasing year on year. In 2015 only two months showed an increase in volume from the corresponding month a year earlier.
Yet the attraction of binary options is still there, albeit in a slow burner kind of way, as the following chart illustrating Existing Accounts and Active Accounts shows.
Since Dec 2013 when the Japanese brokers started submitting their data to the FFAJ the number of Existing Accounts has steadily increased almost linearly from 259,149 to 336,010. This represents an increase of 76,861 accounts, which in itself is a pretty poor effort when considering the marketing muscle of the eight Japanese brokers that have contributed to these statistics. These numbers are even worse when compared with anyoption or EZTrader which each claim to have signed up over 17,000 new clients globally in the first quarter of 2015.
The Active Accounts paint a different picture having fallen from the opening number of 14,019 in Dec 2013 to 13,293 in Dec 2015.
The following stacked graph shows the contribution to total volume from the pairs consisting of USD/JPY, EUR/JPY, GBP/JPY, EUR/USD and Others which consists of AUD/JPY, GBP/USD and other makeweights.
The Dollar/Yen has held up over the last year with the EUR/JPY, GBP/JPY and EUR/USD being the culpable pairs. Even if it is assumed that these three culprits are hindered by wider bid/ask spreads than the USD/JPY it does not explain the lack of progress in the USD/Yen itself.
So, with active clients actually falling and new clients not being signed up fast enough what’s going wrong? From the below analysis the product looks to be a problem although regulation, in particular the minimum duration of a binary option, could also be a fly-in-the-ointment.
There are two aspects of the product that need examining:
Vanilla binary options are the sole instrument for five out of the eight regulated brokers with YJFX and FX Trade Financial trying their hand at Range (Tunnel) options and IG Securities and FX Trade Financial offering Touch options.
Any option market maker will tell you that pricing and risk managing a structured product like the range option is easier than risk managing an outright call or put. Why? Because there is less directional risk, i.e. the delta of a tunnel is generally lower than an outright.
As far as the touch options are concerned, if the market-maker is confidently pricing up an out-of-the-money call then pricing the same strike one-touch call is trivial. The risk management is no different although when strikes are touched some nifty footwork is required to unwind the hedge.
This apparent reluctance to make markets in anything but the outrights severely depletes the ability of the client to design their strategy in accordance with their market view. In conventional options in excess of 80% of trading is conducted as structured instruments such as tunnels and there is no reason to suggest that binaries would be any different.
The paucity of binary instruments on offer to the client is an issue. The fact that the ‘brokers’ are not offering them suggests a lack of pricing and risk management expertise, which if the case, is likely to lead to defensive market-making in the vanilla calls and puts which manifests itself in overly wide bid/ask spreads.
2. Bid/Ask Spread
I don’t have an account with any of those brokers so the following assumption is based purely on the ratio of winning to losing customers per month.
The following three graphs chart the percentage of winning customers trading outright binary calls and puts, range options and touch options.
If JFX were taken out of the first graph then the average percentage of winning customers is almost exactly 25%, i.e. 75% lose every month.
In a game of roulette the probability of winning while on red is 18/37 (assuming just one zero) this leads to an expected return of -2.7%. If we assume Efficient Market Theory which dictates that an asset price has a 50:50 chance of going up or down, and that a buyer of an Over receives a 94.6% return, then that also has a -2.7% expected return.
Yet markets are not efficient and irrespective of whether the time to expiry is one minute or one month, there are traders who can more often than not forecast the asset price movement. In a word, roulette is a game of luck, binary options can be a game of skill. Therefore market-makers need to defend themselves and not offer such a high return as 94.6%.
In order to generate 75% losing customers per month one has to wonder just how defensive the FFAJ brokers are actually being. One can’t help but feel there is a ‘churn ‘em and burn ‘em mentality that Refco would have been proud of when on their ‘A’ game.
As one can see from the Range and Touch graphs the percentage of winners also averages well below the 50% level but at least FX Trade, YJFX and IG are giving it a shot.
So there are two clear areas where the eight brokers themselves can possibly make the product more attractive but both are likely to require an injection of binary options pricing and risk management expertise to put this into effect.
CySEC has recently issued a consultation document that suggests that a binary option must have a minimum of two minutes duration to qualify as an investment. The Japanese FSA have determined that this duration should be a minimum of two hours.
Finance Magnate estimates that 25% of global binary options trading is through offshore brokers servicing Japanese customers. One might wonder why a Japanese trader would use an unregulated offshore entity when there money would be more safely held with one of the eight FFAJ brokers. To a large extent this must be put down to the fact that traders want to trade ultra short-term binaries and will do so whatever the risk is of never seeing their money again. This is akin to prohibition in the US last century where confirmed drinkers were driven into the moonshiners offering rocket fuel that could blind you.
The Japanese market needs a broader range of instruments to trade. Options trading only really took off in Chicago after puts were introduced to trade alongside the calls. This enabled a whole new raft of structured options instruments, which drew in a bigger customer base.
Bid/ask spreads need to be competitive, so much more so than their offshore competition.
Finally the regulators need to get their heads together and determine what the minimum duration of a binary should be and it needs to be a great deal shorter than two hours in order to see off the offshore competition. Regulatory arbitrage is here to stay so long as the regulators do not compete amongst themselves but do compete en bloc against the non-regulated entities.