Difference Between Binary Bets and Other Derivatives
Derivatives trading has earned itself a reputation as a particularly risky form of trading that harbours the potential for both significant gains and heavy losses through the interplay of trading and leverage. Likewise, binary betting still carries a reputation as being a shallow, gimmicky product with little practical advantage. In waylaying the prejudices and anxieties surrounding both trading mediums, it is apparent that both binaries and derivatives have a role to play, and understanding how to use both to optimum effect is a more important trading skill than approaching with a closed mind.
Derivatives are instruments that give rise to rights in assets, and are traded as secondary assets on exchanges between different traders. In contrast, binaries are traded off-exchange between the trader and his broker, and positions use asset or market price as an index only on which the trading outcome will be determined (i.e. the trader acquires no rights in respect of the markets and assets he trades). Thus, the two are largely distinct methods of trading, but have their own distinct appeal in one common area: leverage.
Leverage is the ability to scale up earnings from a trade such that, for example, a 1% market rise delivers a proportionately larger return for the trader. With derivatives, this is achieved largely through borrowing from the broker, enabling the trader to minimize his upfront exposure to a position while being able to amplify small market gains into larger incremental returns.
In binaries, this leverage is more indirect, insofar as the transaction returns a multiple of the stake. Essentially, this means that either a 1% movement or a 1000% movement will deliver the same return, but nonetheless this can provide a leveraged return in comparison to trading the same asset pound for pound.
Perhaps the main selling point of binaries in consideration of derivatives is that they are much simpler to price, and provide a guaranteed lower limit to loss exposure. Highly successful traders have been literally ruined by wayward derivatives positions, and it is essential for traders to constantly keep their downward exposure in check. Contrasted with binaries, where the downside is immediately obvious and static, the certainty afforded over derivatives makes binaries a popular choice for newer traders, and a less risky choice for the more experienced trader looking for a quick way to capitalize on forecast market movements.