To avoid losing all your money with binary options, you need to manage your risk. This article will show you how to employ a functioning risk management to secure your money.
What is risk management with binary options?
The risk management with binary options differs greatly from the risk management most traders are used to from trading conventional assets. With conventional assets, risk management first and foremost deals with limiting losses and maximizing profits. A trader limits risks by investing in situations where he can earn the most in relation to the money he risks.
With binary options, however, risk and possible return are fixed. Traders that invest in high / low options, for example, will always have a payout somewhere between 60 percent and 80 percent, depending on his strategy. In a trading situation, there is not much a trader can do to increase his payout. He has to accept the payout his broker is willing to give him. The only way to get a different payout is to change providers.
Therefore, risk management with binary options is deprived of one of the most important components of conventional risk management. There are, however, several other components of risk management binary option traders can use.
1) Employ a definite trading strategy
Random investing is the number one reason why traders fail, and the number one risk factor in your trading. The more you can take human factors such as emotions, feelings, and hunches out of your trading, the more successful you will be.
A definite trading strategy will do exactly that for you. A trading strategy defines when you invest in which kind of asset, with which kind of binary option, and which expiration time you will use.
2) Employ a solid money management
A good money management limits your risk per trade to a fixed percentage. Since the prices of many assets are connected, your money management should also limit your overall invested capital, your investment in one market, and your investment in one industry.
This way, unforeseen developments cannot ruin you entirely, but will only affect a part of your overall capital, thereby greatly limiting your risk.
3) Use a trading diary
As with learning any skill, one of the most important factors to success is your ability to learn from your mistakes. A trading diary is a detailed written account of your entire decision making process behind every binary option you ever invested in. It contains what you saw in the market, which prediction you made, and which tools you used to get to that prediction.
After you traded a strategy for a while, your trading diary will tell you exactly which part of this strategy helped you to win trades and which part caused you to lose trades. Then, you simply need to eliminate the parts that caused you to lose trades and step by step you can start to become a better trader.
4) Managing risk & reward
While binary options have fixed payouts that make managing risk more difficult, risk and reward differ greatly between binary option types.
High / low options are generally considered to be the least risky of all binary options types. In return, they also generate the smallest payout. Touch options, on the other hand, feature the most risk and the highest payouts. Boundary options are somewhere between touch and high / low options in risk and payout.
As a binary options trader you can use the relation of risk and payout to adjust your trading style to your personality. When trading breakouts, for example, risk-averse traders should use high / low options to help them keep their risk low. Traders, willing to take risks, on the other hand, should use touch options to turn their higher risk tolerance into higher possible payouts.
Both kinds of traders keep risk low by choosing a strategy that suits their character, that they can execute well.