Trading Forex or Binary Options? Here are What You Should Know
Trading Forex or binary options are, perhaps, the most common financial instruments people trade online these days. The other instrument or financial asset of growing interest is cryptocurrency like bitcoin. In finance, trading refers to the frequent buying and selling of financial instruments without holding onto them.
Unlike investing where the investor buys and holds until a future time, trading is more or less a speculation on the movement of prices of financial instruments.
In trading, the primary goal is to make a profit.
Usually, these instruments are securities derived from some underlying assets. That is why they are called derivatives. Since traders do not take physical possession of these instruments, what they do is actually a speculation on the price of futures contracts for foreign exchange transactions and the contract for difference (CFD) for transactions in stocks, commodities, indices and options.
However, the price of these contracts (futures and CFDs) are directly related to the prices of the underlying assets. As a result any movement in the prices of the physical asset such as stocks or currencies would reflect in the pricing of its derivative.
I hope we are making some sense out of this?
Online Trading of derivative asset like forex and binary options is very volatile and only traders who understand how it works succeeds. In this post, I try to provide the reader with simple strategies that he may adopt if he wants to succeed in trading of these financial instruments.
But before we consider these success tips, let’s go a little more pedagogical and attempt to highlight the differences between forex trading and binary options trading. This will help the reader who is not so familiar with these topics to understand the basic concepts.
FOREX TRADING AND BINARY OPTIONS TRADING: UNDERSTANDING THE DIFFERENCE
Forex trading is the buying and selling of various currencies of the world for the purpose of making profit. The forex market is the biggest financial market globally, much bigger than the stock market.
It is also the most liquid, carrying a daily transaction volume in excess of US$4 trillion. But unlike the stock market the foreign exchange market is not traded via exchanges. The buying and selling of currencies is basically done over the counter.
Currencies are traded in pairs and are grouped into two: major currencies and minor currencies. The major currencies are the currencies of the major economies in the world such as USA, Japan, Great Britain, Canada, Australia, the Euro Zone, Switzerland, etc. The most common currency pairs traded in the forex market are GBP/JPY, EUR/USD.
The value of any currency pairs is driven by fundamental issues occurring in each of the countries where the currencies are used. These fundamental issues are usually of political, economic or social-political nature. It can also be environmental such as natural disasters and wars.
On the other hand, binary options trading is simply the prediction of the direction of the price of an underlying asset. Binary options traders bet on the future movement of identified assets such as gold, stocks, commodities and market indexes. Thus, all the trader need do is to predict whether price will go up or down within a fixed period of time. Both the risk and rewards on a given trade are also fixed and known upfront. In order words, the trader knows in advance what he will gain if he is correct and vice versa.
Observe that I used the word ‘bet’. It is deliberate because in its simplest term what binary options traders do is to bet on financial assets. It is more like sports betting than real investing.
And because of this betting nature, some have argued that binary options trading is a scam.
It is not a scam. It is just incredibly risky!!!
How Money is Made
Forex trading involves taking positions. When a trader takes a long position, it means he has bought a currency at a particular price and set to sell a higher price. The difference between the price he bought and the price at which he sold is called the spread.
If the trader sold a currency at a particular price and expects the price to fall to a particular point so that he can buy back, he is said to have taken a short position. Therefore, it means that profits can be made in both rising and falling market, if the trader does his calculations very well.
It is not so with binary options trading. Here you lose all your stake if your prediction of the price direction is wrong and can win as high as 80 percent of your stake if you predict correctly.
If you say that binary options trading is like gambling, you are right!
Trading Success Secrets of the Masters
Now that you know the difference between forex trading and binary options trading, which would you rather do? Which ever you decide, here are a few tips to help you succeed.
I have studied a couple of successful traders and found the following to be common recipe for success in financial trading.
Information is the source of knowledge and knowledge is power. To be a successful trader, you must be abreast of developments around the world because these world events are what affect currency prices. In order words ensure you have access to current news and events 24/7.
You can achieve this by subscribing to credible news sources, websites and blogs so that you get delivered to your inbox or at least prompted of latest news and events on the minute.
Staying on the loop will let you know what’s happening around the globe and thus be in a position to make informed decisions, place winning trades and make profit.
Again, you want to be a successful trader? Stay informed.
Study to prove yourself
A fundamental criteria for success in the financial markets is knowledge and experience. You acquire knowledge by having access to information, reading and researching, while you gain experience by doing.
In other words, to trade like the pros, spend some time to educate yourself to understand the basic concepts and advanced concepts and keep trading to gain mastery.
In both forex and binary options trading, you can gain useful experience without necessarily committing funds. This is done by making use of demo accounts provided by your broker. These accounts have been credited with dummy funds with which you can trade the market to gain experience before investing real money.
Have a trading plan
Develop a set of rules to govern your trading decisions. You are the trader and you know what you want to achieve, so your plan should be peculiar to you. Basically your trading plan should include setting entry and exit prices, stop losses. risk management and profit goals, among others. Once you set up your trading plan, stick to it.
Control Your Emotions
Just as there are emotional investors, there are also emotional traders. To succeed in trading forex or binary options, you must learn to keep a tap on your emotions. Learn to remain calm even when the market seem to be beating you silly and do not get too excited when your trades are winning.
Either of the extremes will lead you to take hasty decisions with negative consequences on your accounts. Someone says “he best traders are those who can stick to their plan even when there is a lot tempting them to move away from it”.
Avoid greed. Have a goal and cultivate the habit of exiting your trades once you achieve that goal. You can enter the market again on fresh terms and strategies.
Limit your risks
An essential part of the risk management programme you should adopt is to limit your exposure to trading. Forex and binary options trading are risky ventures, though they can be profitable. Many novice traders get too ambitious to the extent that they stake their life savings in the hope that they would make double the money.
Even master traders advice that you do not risk an amount you cannot afford to lose.
Make Use of Stop Loss
Stop loss allows the trader to define the maximum amount of loss a trade can incur. This function is however applicable to forex trading. A binary options trader may not have the benefit of using the stop loss function.
It doesn’t apply to binary options trading.
Use the stop loss function. It will help you to keep your emotions in check. Even experience forex traders use stop losses to pull back a little, re-access their strategies and perfect their plans.
7. Keep Records
A common mistake most traders make is that they don’t keep records. It is a business, treat it as one. A very important record any serious trader should keep is a Trading Journal. In this, you should record and update your trading plan, systems and performance trends.
There are a lot of advantages in keeping records, so maintain it.
There are positive testimonies that forex trading is profitable. So also is for binary options trading. However, there are also a good number of people who have had very bad experiences. The key to your success is deciding which of the derivative products you are more comfortable to trade and spending sometime to understand it.
Before you commit any funds, ensure you trade with demo accounts for a while in order to attain a certain confidence level. Then follow the tips highlighted here to achieve success.
Buchi creates content and leads the Team at Stalwart Investment Partners; a business development and investment consultancy firm. He provides strategic advisory to help SME's, small business owners and HNI's grow profitable business and make informed investing decisions.