Binary options are considered an unconventional, exciting trading option by many traders. However, the promise of high returns provides unique risks that every trader should consider. In short, the main downsides include:
- All-or-nothing structure
- Over-reliance on short-term movements
- Lure with high returns
- Lack of regulation
- Lower reward compared to the risk
Now, let’s go over each of these in more detail.
List of the Major Risks of Binary Trading:
1. All-Or-Nothing Structure
The ‘all or nothing’ or ‘yes or no’ concept of binary options attracts many traders. They either gain a fixed payout or nothing after the option expires. While this makes the trading process simple, this structure has many disadvantages.
The first clear one is that these options are short-lived, with expiry times ranging from 10 seconds to 5 minutes. While some brokers offer times reaching up to a day, the quicker ones are more common.
Another drawback with a binary result is it limits the types of strategies traders can employ. Analysts in other markets can foster different outcomes for their positions, even if it’s not a loss or profit (for example, a ‘breakeven’ trade). They can also apply other management techniques like hedging.
2. Over-Reliance on Short-Term Movements
As mentioned before, most binary options have a short lifespan. This limited time frame means predicting the right outcomes consistently is quite challenging. Binary options are more speculative than other types of trading.
Traders have more time to analyze movements and make better decisions when they trade long-term, a benefit rarely afforded in binary options. The lower expiry periods can foster a gambling mentality, resulting in overtrading. Such behavior means traders are likely to make bad trading decisions without the time for proper thought.
3. Lure with High Returns
The allure of exceptional returns is more of a psychological risk. Given the tough economic times, binary option providers are incentivized to market only the most favorable parts of this instrument to hook clients.
The low barrier entry makes it easy for anyone to participate, assuming the trading is simple and hugely profitable.
4. Lack of Regulation
Regulation in any traded market is necessary for clients to trade safely and be confident in depositing their funds. Yet, regulation is far less prevalent (or sometimes non-existent) with binary options. There are a few reasons why.
Properly regulated trading providers are often associated with a transparent exchange. ‘Over the counter’ or decentralized options through a broker (rather than an exchange) are susceptible to counterparty risk where scams and fraudulent practices happen. The broker handles the binary options internally instead of publicly disclosing them.
Sadly, many countries regard binary options as more of a gambling product. Thus, they offer different, less protected regulations than most financial tool regulations. One downside of using an unregulated broker is no consumer protection. This means that victims have no authority to consult in the case of malpractice.
Providers can offer binary options and disregard rules that a regulatory authority would require them to follow. Hence, they are likely to manipulate trades directly or use withdrawal issues to manipulate them. In the worst case, a broker may pretend to be a real company only to swindle money from customers.
5. Lower Reward Compared to the Risk
The skewed risk-to-reward (RR) ratio is another challenging aspect of binary options. Other general non-expiry markets like forex and crypto have no limits in this regard. The general minimum accepted RR ratio is 1:2, meaning a trader plans to make $2 for every $1 risked (100% return).
It’s clear that one side is designed to be higher than the other. Meanwhile, it works inversely with binary options. Traders can expect returns from 65% to 92% on standard binary options. While the payouts are higher with some brokers, these are complex options with more requirements.
Let’s consider the standard binary options. With a 65-92% return rate, this means the RR ratio is less than 1:1. Assume that a binary options platform provides a 75% return rate for a position ‘in the money.’ The RR ratio, in this case, is 1:0.75. A trader would stand to lose their entire risked amount if the position went unfavorably or ‘out of the money.’
The investor would take several trades to ‘break even’ and over-compensate for their losing trades. Thus, binary options traders must have a high win percentage to noticeably increase their investment, heavily stacking the odds against them. We should also consider that many brokers apply a fee for every trade.
Despite these drawbacks, light is at the end of the tunnel (which only marginally improves the odds). Certain providers provide impressive returns, which can reach up to 500%. Pocket Option (more on this company later) provides a maximum of 218%.
Needless to say, there is a catch. Traders would need to engage in binary options with specific requirements, which increase the difficulty of winning, thus warranting a higher reward.
Another tactic certain providers use is offering a rebate. A broker may refund a certain percentage of the investment (say 15%) in case a position loses or is ‘out of money.’
Assume the reward for profitable positions is 65%, with a 15% rebate for loss-making trades. If a trader boasted a win rate of 60%, the gains after ten trades with $100 down for each will be as follows:
- Number of positions: 10
- Losing trades: 4 ($400 = $100 X 3)
- Profitable trades: 6 ($390 = $65 X 6)
- Net profit: $50 = (400) – ($390) + ($60/15% X4)
Without the rebate, the trader would have -$10.
(Risk warning: Your capital can be at risk)
Are There Benefits to Binary Options Trading?
It’s not all doom and gloom for trading binary options. Despite the drawbacks, this exotic market has unique benefits:
- Definite capped downside: You are always guaranteed not to exceed your ‘stake’ when trading binary options at any time. This contrasts with other markets which use stop losses.
While this mechanism is automated to manage losses, it’s not fixed. A trader may move their stop, delete it or harsh market conditions could result in a bigger loss than expected.
- Lower complication: Standard binary options are simple for anyone to understand. Given the short-term nature of this instrument, traders rarely need to study other external factors compared to stocks and cryptocurrencies.
- Asset diversification: Traders can speculate in many types of markets. After all, there are binary options for forex, stocks, digital currencies, commodities, indices, and even economic events.
- Rebates on losing trades: As discussed earlier, some brokers refund a portion of your investment if you lose positions.
Pros and Cons of Binary Options Trading:
Like many other trading activities, Binary options trading has pros and cons for traders. It’s critical for traders to approach binary options with a clear understanding of the associated risks and rewards. By staying informed and employing sound risk management strategies, traders can navigate the process more effectively.
- Asset diversification
- Lower complication
- High returns
- Straightforward process
- Accessible
- Definite capped downside
- Rebates on losing trades
- Defined risk and reward
- All-or-nothing structure
- Over-reliance on short-term movements
- Lure with high returns
- Lack of regulation
- Lower reward compared to the risk
Reducing Risks By Using a Reputable Broker
The importance of using a reputable broker can’t be overstated. While you may have the best strategies, the broker is the last obstacle to deal with before your profit withdrawals.
Aside from honoring their financial obligations, a reputable binary options provider offers a fair trading environment so your strategy can thrive.
Opting for a trustworthy broker safeguards your funds and ensures fair and transparent dealings. Reputable brokers adhere to stringent regulatory standards, providing a secure environment for traders to execute their strategies.
Let’s Look At Two Decent Options with an Overview of Each:
- Welcomes international clients
- Offers high payouts: 90% – 97%+
- Professional-grade trading platform
- Swift deposit process
- Enables Social Trading
- Provides free bonus incentives
- Min. deposit $10
- $10,000 demo
- Professional platform
- High profit up to 95%
- Fast withdrawals
- Signals
- Welcomes international clients
- Offers high payouts: 90% – 97%+
- Professional-grade trading platform
- Swift deposit process
- Enables Social Trading
- Provides free bonus incentives
- Min. deposit $10
- $10,000 demo
- Professional platform
- High profit up to 95%
- Fast withdrawals
- Signals
1. Pocket Option
Pocket Option is one of the go-to offshore binary options brokers founded in 2017, boasting over ten million customers in over 95 countries. The Mwali International Services Authority regulates the company.
With just $5, traders can speculate over 100 assets in forex, commodities, indices, crypto, and stocks. Pocket Option offers an attractive profit rate of up to 218% of the bet amount.
No commissions apply for any deposits or withdrawals, with traders being able to fund using countless e-wallets, bank, mobile, and crypto payments. It eases traders into its advanced platform with a demo account before they begin trading live binary options. Finally, Pocket Option offers a social trading feature where traders can automatically copy other successful traders.
2. Quotex
Quotex is a slightly newer offshore binary options provider, registered in the Seychelles and first operating in 2019. It describes itself as an ‘Innovation Platform for Digital Asset Trading.’
Unlike Pocket Option, Quotes’s profit rate is lower (up to 98%). Yet, customers can trade shares, fiat currencies, commodities, and indices (over 410 instruments in total) with a minimum deposit of $10.
Quotex also has a demo account for users to test their convenient, speedy trading interface. This platform also includes integrated signals for anyone to create an effective strategy.
Conclusion
While binary options have received a harsh reception among investors, they can be highly profitable for those with enough experience to master them. While they have unique drawbacks, the risk of ruin and other potential financial downfalls apply to other instruments.
Otherwise, binary options can be financially rewarding once a trader has the proper risk management.
Most asked questions about the topic:
Are binary options safe?
Binary options carry a similar likelihood of investors losing their money as other investments. Hence, it’s critical for traders only to commit disposable income or funds they can afford to lose.
Is binary options trading simply gambling?
Their negative cumulative payout (due to the ‘house edge’ concept) makes them similar to gambling. While they share some similarities, they are not the same.
Are binary options easier than other options?
Most experts agree that binary options are more straightforward than traditional options, given their twofold outcome. Yet, the former doesn’t have the fundamental structure of the latter, meaning they are less comparable.
Can binary options make you rich?
Like any traded market, it depends on a trader’s starting capital, experience, and skill. So, the potential is there, but a lot of work is necessary.
Do you have to pay taxes on binary options trading?
It varies from country to country. Some nations treat binary options as traditional financial instruments where income or capital gains tax applies. Meanwhile, other regions like the United Kingdom classify this market as gambling, which is often tax-free.
