Critics often claim that binary options are too risky. These claims are an untrue generalization. As an interested trader, you should not allow those claims to stop you from investing in binary options. This article will help you understand the truth about binary options and risk.
How risky are binary options?
It is impossible to generalize the amount of risk binary options carry. The risk binary options carry depends entirely on how you use them. If you trade binary options the right way, you can almost eliminate risk. If you trade binary options the wrong way, however, you will definitely lose money.
To understand this relationship better, let us take a closer look at the investment process.
When looking at a single binary option, you always risk your entire invested capital. If you win, you will get the predefined payout. If you lose, your entire invested amount will be gone. Therefore, the risk of one binary option is always 100 percent. If you keep investing your entire capital on one binary option, you will sooner or later lose an option and lose your entire capital.
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Obviously, using such an approach would be a recipe for disaster. There is, however, a way to eliminate risk from your binary options trading. With binary options, safety comes in numbers. Relying too much on a single option can easily cost you a big part of your capital. Therefore, you should spread your capital over more options.
Let us assume this scenario: You spread your capital evenly over 20 different options. You lose five of them, which means that you lose five times your invested amount per options.
You will, however, also win 15 of your options. If each option generates a payout of 80 percent, you will get a return of 15 x 180 percent = 2,700 percent. Subtract your initial investment of 2,000 percent (20 times the invested amount), and you end up with a net profit of 700 percent over 20 investments.
This, of course, is a much more intriguing perspective than sooner or later losing everything by investing your entire capital on a single trade.
How to manage your risk
To become a successful binary options trader, you need to find a way to make sure your trading always adheres to a similar calculation as shown above. To understand how you can do this, let us take closer look at the equation. In this equation, there are two variables:
As a trader, there are few things you can do to influence the payout of your binary option. The only thing you can do to influence the payout is to choose a different option type: Touch options generate significantly higher payouts than boundary options, which generate significantly higher payouts than high / low options.
Since most strategies require a certain binary option type, however, most traders cannot simply change option types. Even more importantly, the payout of your binary option always depends on the conditions your binary broker is willing to offer you. In a given situation, there is nothing you can do to get a higher payout.
Since your strategy will constantly get you into similar situations, you will always get a similar payout. You can use this knowledge to your advantage by using your average payout value for you calculation.
B) Winning percentage
The one variable you can influence is the winning percentage. Your winning percentage depends on your strategy and how well you execute it. Starting with your payout, you have to make sure that your winning percentage is high enough to make you money.
In general, there are two tools traders use to make sure they have a high enough winning percentage:
1) A trading strategy
A trading strategy is a definite set of rules you use to evaluate the market, generate a signal, and invest. By applying the same rules to the same situation every time, you will be able to keep your winning percentage at a constant level.
2) A trading diary
A trading diary is a written account of your decision making process behind every single trade. You can use your trading diary to evaluate your trading and make corrections to your strategy. The constant evaluation process will help you improve your trading and, step by step, increase your winning percentage.
Use these two tools for your entire trading process, and you can transform binary options trading from a risky process into a simple, mathematically proven process of making money. Then, you will have tamed the risk binary options inherently possess.