What is Binary Options Pricing?

Studying binary options pricing is an effective way to understand its dynamics. Binary options trading is composed of various components such as an expiration time or maturity, strike price, and an derivative security, instrument, commodity, or unit price. In This type of options trading, option contracts are sold up front for a premium payment. In addition, there is also the call and put options that plays a huge role in trading.

One of things that you have to understand in binary options pricing is that it is characterized by a fixed payout system. This is what distinguishes it from vanilla options. For instance, if you get a call option on the movement of a specific instrument, you can earn up to 70% of your investment with a binary options contract, even if the price of the underlying instrument is just 0.0001 over the strike price. While the earnings that you can obtain from a vanilla option is a potentially unlimited variable amount, it is still dependent on to what extent the underlying instrument clears the strike price. This means that in binary options trading, any investment, no matter how small it is, has the potential to earn relatively larger returns constantly. The fixed payout scheme also means that the risks will be computable and more bearable.

In order to fully understand the dynamics of binary options pricing, here is a hypothetical example. A binary options contract ABC has a strike price of $50, a contract size of $100, and an expiration date of 4pm. The trader is faced with two selections: predict that the instrument will exceed the strike price and get call options contracts, or believe that it will not reach the strike price and opt for the opposite put options contracts instead. Let’s say that the trader buys 10 call options contracts for $30 each, with a total cost of $300. This will be the total amount of risk for this trade since that would be all the money that the trader can potentially lose. However, if by the contract expires and the value of the asset is over $50, then the trader earns $1,000 minus the cost of the contracts which is $300. The investor then acquires a total gain of $700.

However, keep in mind that binary options pricing is affected by time dynamics as well. This implies that as the value of the asset becomes within the range of the strike price as it is about to expire, the price of its respective contract also becomes more expensive as well as closer to the contract size as well.