By using binary options, traders can develop strategies that can not be implemented in such a simplistic way with other financial instruments. The volatility strategy presented here is based on the sometimes extreme volatility of financial markets, which is caused in particular by major news events.
This strategy is not about foreseeing the direction of the market movement, but rather to take advantage of a great move or momentum in the market, no matter whether it may be directed upwards or downwards. Due to the clearly defined and limited risk, binary options are especially suitable for volatile markets. Let's look at the specific strategy, in which each a call and a put option with the same expiry time are bought in order to trade the markets successfully in volatile times.
Calculated risk and high return
Most traders are familiar with special market situations, especially when important events such as the release of U.S. employment data or interest rate decisions of central banks are due. One can assume that there is often a high probability for increased volatility in the market, a greater movement with plummeting or soaring prices, whether the expectations of market participants prove to be correct or not. Although the direction of the price movement may not be predictable, traders are able to benefit anyway by applying a binary options strategy for volatile markets.
Binary options: risk and return clearly defined
With binary options, the maximum risk is well-known in advance as it is determined by the trader himself. For example, if $50 are invested in a call option, a maximum of $50 can be lost (some brokers offer a refund in case of loss of up to 15% of the initial stake). A loss occurs when the option is out of the money at expiry time, the trader has therefore been wrong with his assessment of the market. In the positive scenario, if the option is in the money at expiry time, the trader receives about 70% to 85% return on investment in classic digital trading.
Higher returns by using special binary options trading modes
Many brokers, such as OptionFair, offer additional trading modes, which are escpecially suitable for special market situations like extreme volatility. “One Touch”-trading at OptionFair enables the trader to benefit from returns of more than 300% in high-yield-mode, provided that a certain price target is met at least temporarily during the option period (“one touch”). These are exactly the prerequisites we are looking for in our volatility trading strategy.
First, this requires an account with a binary options broker. At OptionFair, an account can be opened with a deposit of just $200. Alternative brokers can be found in our binary options broker comparison.
The market situation in general is already very turbulent due to the financial crisis and market participants expect the central bank to take steps in order to calm the financial markets. Let's assume that market participants will react either very disappointed or almost euphoric to the rate decision and on the comments from the ECB President, which are especially important.
Purchase of a call and a put option
To cover both possible outcomes, both a call and a put “One Touch”-option on the currency pair EUR/USD are bought with the same expiry time and with the same initial stake. In the graphic below, that trade is exemplified on the OptionFair platform. OptionFair guarantees a return of up to 350% on short-term One-Touch-Options in high-yield mode, which is exactly what we are looking for.
We decide to invest $100 in a call and a put option with a return of 350% each. The maximum risk is therefore $200 and only comes into play, if the expected market move after the ECB rate decision should fail to appear.
As we can see below, the current price of EUR/USD is at 1.23424:
In order to reap the potential profit of 350% with the call option, the price at the expiry time of 15:00 must have reached or touched at least 1.23778. For the put option, the price would have to fall to 1.2306 accordingly, so that the option is in the money at expiry and the profit is realized.
It is important to choose the option period or in other words the expiry time wisely when applying this strategy. You should take into account that it sometimes may take several minutes until market participants really act on breaking news.
Let's assume the following scenario:
To the surprise of the market, the ECB keeps interest rates at the current level while announcing at the same time, to take all the necessary actions for the permanent support of the euro with immediate effect. The market participants react with tremendous euphoria and increased confidence in the euro leads to a huge price rally. EUR/USD gains nearly 100 pips within minutes so that the EUR/USD-rate rises from 1.2340 to 1.2440.
What does it mean for our two binary options?
Although we surely lose the $100 invested in the put option, with which we had covered the possible scenario of falling prices. Fortunately, the target price of the call option is clearly exceeded due to the strong market movement. We gain 350% in the call option and thus obtain $450 at $100 invested. Taking into account the loss in the put option, a total profit of $250 is made, almost in no time!
If market participants would react disappointed regarding the situation of the Euro and thus EUR/USD at least fall to the target price of the put option, we would obtain the same result ($250 profit). In the described scenario, the direction of the market movement does not matter, if only a movement of about 40 pips takes place within the option period!
One Touch-trading: high reward opportunities in specific market situations
The example above clearly shows that in volatile markets high returns can be achieved with manageable risk, by using “One Touch”-binary options. It should be noted that not all brokers have the One Touch-trading mode on offer. In addition, One Touch-trading is usually only possible on a limited number of assets and is sometimes restricted to certain market hours. Therefore, one should choose a broker that offers One Touch-trading during normal market hours. If necessary, several binary options trading accounts are useful to increase flexibility.