Responding to the increase in popularity of binary options trading, brokers introduced a wide range of contracts to meet the needs and aspirations of traders.
The most popular binary option contracts are as follows:
1. High / low (Above / below or up / down):
Binary option brokers usually offer high or low contracts with short-term expiry periods ranging from 30 sec to one hour or more. As the name indicates a high contract should be bought if a trader anticipates a rise in the price of the asset. Similarly a low contract should be purchased if a trader believes that the price of an asset is going to decline.
To trade a high / low contract, a trader should begin with the selection of the asset, which can be an equity, commodity, index or currency pair. It is followed by the selection of the expiry time. Finally, the trader should decide the investment amount, which can be from $1 to $500 (minimum and maximum amount depends on the broker).
At expiry, a trader is said to have won (contract is said to be in-the-money) the high trade, if the traded price of the underlying asset is higher than the price (strike) which prevailed at the time of entering the trade. Similarly, at expiry, a trader is said to have won the low trade, if the traded price of the underlying asset is lower than the price (strike) which prevailed at the time of entering the trade.
Above / below or up / down contracts can be traded in a similar manner.
2. One touch binary options:
For every asset, at any given time, a binary broker would normally offer two one touch binary option contracts. One of them would have a target level above the prevailing price, while the other one would have a target price below the prevailing price. The trader should choose the suitable contract based on the trend forecast.
If a trader believes that the price would go up, then the one touch option contract with target price above the prevailing price should be bought. Similarly, if a trader anticipates a decline in the price of an asset, then the one touch option contract with a target price below the prevailing price should be bought. As long as the price violates the target level at least once, the trade would result in profit (option contract would end in-the-money).
If the price fails to violate the target level, then the trader would lose his entire investment. The payout can be anywhere between 70% and 550%, depending on how far the target level is. It should be remembered that even if the price crosses the target level and retraces back, the trader would be still credited with the pre-determined amount. The price need not stay above or below a particular level at expiry, as in the case of a high / low contract. A one touch binary options contract can be bought even during the weekends. A one touch options contract should be bought only when a trader expects sharp price moves in a single direction. For example, ECB, the Fed and BoJ interest rate cuts can be successfully capitalized by trading one touch option contracts.
3. Double one touch binary options:
In this contract, instead of a single target price, a broker would offer two target levels, one above and one below the prevailing price. As long as the price of the underlying asset breaches either one of the levels within the expiry time, the trade would result in a profit. If the price does not violate either of the target levels before expiry, then the trader would lose his investment. A double one touch option contract should be selected
only when a trader anticipates a rise in the implied volatility, but unsure about the direction of price movement. For example, the contract is best suited to trade news (GDP, trade balance, etc.,) announcements. The payout would be slightly less than the one touch options contract.
We shall discuss the rest of the varieties of binary option contracts in the next chapter.