Binary option

What is it?

  • An option where the payoff is either some fixed amount of some asset, or nothing at all (discontinuous payoffs). The most common examples of binary options are the cash-or nothing and the asset-or-nothing options. Also called digital options.

How is it constructed?

  • Binary options can either be European or American and be structured as a put or a call.
  • Underlying asset can be an event or a price point being attained.
  • If at maturity the binary expires in the money:
    • Cash-or-nothing: buyer receives a predefined cash amount
    • Asset-or-nothing: buyer receives an amount equal to the asset price itself.
  • If instead it is out of the money, the option expires worthless.

Payout = C if ST > K = 0 if ST ≤ K

Where:

ST = spot price at maturity

K = strike price

C = pre-defined cash amount if it’s a cash or nothing option, and asset price in the case it’s an asset or nothing option

Max profit: Pre-agreed cash amount or the asset price at maturity

Max loss: Premium

When is it used?

  • It is appropriate for an investor who believes that the market will be above/below a certain level at some specified time, but is not sure of the magnitude.
  • Often is used to construct more complex option products.
  • It can be seen as building blocks for a plain vanilla call which is constructed from an asset-or- nothing call with a short cash-or-nothing call where the cash payoff equals the strike.

What are the benefits?

  • Less risky than traditional options as profits locked in as underlying performs, however, more expensive than a normal option.
  • No need to constantly watch the underlying market level.

Click Here to Start Trading Binary Options   mayfair-options-127x75

One comment

  1. Binary options genarly a help for every one who wnat to deal in some fixed amount of some asset, or nothing at all. so each and every one want to a fixed price.
    and for more information you can visit our blog.
    here is the link.
    http://binaryoptionsstrategytrading.wordpress.com/

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