Boundary options are a highly profitable type of binary options that can make you a lot of money in a short time. Unfortunately, many traders stay away from boundary options because they feel insecure predicting whether the market will reach the target price. This article will show you how to make this prediction, and help you make money with boundary options.
What is the target price with boundary options?
A boundary option has two target prices: One target price to the top of the current market price and one target price to the bottom of the current market price. To win your boundary option, the market has to reach one of the target prices. It does not matter which target price the market reaches, and the market does not have to reach both market prices.
To invest in a boundary option, you do not have to predict which direction the market will move in. You only have to predict whether the market will move past the corridor created by both target prices or not. Phrased differently, the fundamental question behind a boundary option could sound something like this: Over a given period of time, will the market trade further from the current market price than x percent or not?
This is a fundamentally different, and for most traders easier, question than the question posed by high / low options and touch / no touch options. Instead of using multiple indicators, techniques, and systems, you can simplify your decision making process to a few calculations based on easily accessible information and one indicator.
Can the market reach one of the target prices?
As a trader you have to determine whether the market can realistically reach one of the target prices of a boundary option or not. The first part of this question is easy: Much like with touch options, you can use technical indicators such as the average true range (ATR) to estimate how far the market can move over a given period of time.
The ATR calculates how far the market has moved in a single period on average over the last time. Since you know the expiration time of your binary option, you can easily estimate the maximum possible movement until your boundary option expires.
Now, however, you only know how far the market can move over a given period of time if all periods point in the same direction. With touch options, this is a somewhat likely assumption, especially if you keep the expiration time short: You only invest in a touch option when you expect the market to move in a certain direction.
If you were able to predict the direction the market will move in when investing in a boundary option, however, there would be no need to invest in a boundary option: You could simply invest in a touch option and profit from the higher payout. Therefore, you will likely only invest in a touch option when you are unsure which direction the market will move in.
This leads us to the more problematic second step of determining whether the market can reach the target price: Knowing how much you have to adapt the expected maximum movement based on the ATR.
Adjusting the expected maximum movement
In some situations, you will find that the expected maximum movement should exceed the prediction made by the ATR.
When a company releases a new report, for example, it is often had to tell whether the news will be good or bad. All you know is that the news will likely have a significant impact on the market: Good news will push the market significantly upwards. Bad news will drag the market significantly downwards.
This scenario is perfect for a boundary option. Since you expect a strong movement, you can accept target prices further away from the current market price than the ATR’s expected maximum movement would indicate. To follow a definite trading strategy, you should start using a factor, such as 1.5, to calculate the maximum distance between target price and market price you are willing to accept.
Sometimes, the market will also be in a sideways movement. Now you have to do the same thing, just the other way around: You have to decrease the expected maximum movement.
When the market is in a sideways movement, it will alternate between rising and falling periods almost randomly. Therefore, it would be foolish to expect all periods of a movement to point in the same direction. Similarly to situations where you expect a strong movement, you should use a factor to adapt the expected maximum movement to the current market situation. In this case, however, you should decrease the expected maximum movement.
Many traders use a factor of 0.5. In that case, you can always invest in a boundary option when boundary option’s target price is just half as far away from the current market price as the expected maximum movement based on the ATR.