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Trading Binary Options: The Straddle

Updated on November 12, 2012

Binary Options Straddle Profits

This diagram shows how a binary straddle is set up and the potential profits and loss associated with the trade.
This diagram shows how a binary straddle is set up and the potential profits and loss associated with the trade. | Source

The Binary Option Straddle

The option straddle is one of the best binary options trading strategies in use today. This strategy seeks to maximize profits in trading ranges and limit potential risks. The strategy, when deployed effectively, can produce two options expiring in the money, a bonus for any trade. However,one to be considered is that in the long run most straddle trades wind up with one winning and one losing trade.

Just what is a binary option straddle? A binary option straddle is not like a conventional long option straddle. With US style options a long straddle is when you buy one call and one put,usually at the same time and at the same strike, with the intention of one options profits covering the losses on the other. It is a strategy for trading uncertain markets. The strategy assumes that the price of the underlying is going to move but seeks to negate the need for predicting which direction it will move. It is called a straddle because you are “throwing” one leg over each side of the trade, hoping to ride it to profits. One option is assumed to close out of the money with this trade as it is unlikely for a conventional straddle to close with both legs in the money.

The binary straddle is like the conventional straddle in that it is used in sideways trending and uncertain markets. In a binary straddle you are also buying two legs, one call and one put. It is unlike the conventional straddle because you do not buy the positions at the same time or even at the same strike price. The binary options straddle seeks to profit from a trading range and is more similar to collars in that respect. The binary straddle takes advantage of trading ranges by buying puts at the top of the range and calls at the bottom.

How To Trade A Binary Straddle

Trading a binary straddle is simple in theory but difficult in terms of waiting for the proper set up. So, lets assume that the markets are trading sideways and you have identified a likely trading range. This range could be on minute, hourly or daily charts so long as the expected movement and options expirations allow for the trade. If the underlying instrument is near the top of the range you will want to buy a put first, with an expiration as high as possible. If the underlying is near the bottom of the range you will want to buy a call first, with an expiration as low as possible.

Next, wait for the underlying to move down to the bottom of the range, or towards the top depending on the trade. Once the underlying has made sufficient movement buy the opposite position. If you bought a put first and the underlying moved down buy a call next. If you bought a call first and the underlying moves up buy a put second. Once the second leg is purchased just wait for expiration. At least one of your positions will close in the money.

The Rewards Of Binary Options Straddles

Straddles can be highly profitable, reduce risk in binary options trading and take advantage of trading ranges. The profits available in a successful binary straddle are double what you would get from a simple long position. When deployed correctly and effectively it is possible, and even sometimes likely, that the trade will end with both positions closing in the money. This means twice the profits of one trade closing in the money.

At the same time a straddle puts you in position for two winning trades it also puts you in position to limit the risks of binary trading. Remember, binary trading is an all or nothing proposition. Even though some platforms rebate a small percentage of each trade the amount is negligible; you will effectively lose 100% of each trade. Using a straddle limits your potential risk because one leg will always be a winner and offset the losses from the other leg.

If you trade $100 on each position and one trade wins and one trade loses it will look something like this: The winning trade returns 70% on investment for a total of $170. The losing trade returns 15% of investment for a total of $15. The total cost of investment was $200 and the total return was $185 for a net loss of 7.5%.

Potential Returns From Binary Straddles

This chart of the expected returns from trading binary options puts the risks and rewards into perspective.
This chart of the expected returns from trading binary options puts the risks and rewards into perspective. | Source

The Risks Of Trading Binary Options Straddles

Binary straddles have several risks, or limitations. First the trade severely limits your chances for profits. If you have one trade that is in the money, and then enter the second leg of the trade, you have effectively created a losing position unless the markets reverse when you think they will and then stay within the range. I think that may be asking a lot of the stock market.

Binary straddles are not always a good trade because the set up is hard to find and the trade is only profitable if it closes with both legs in the money. In my mind why risk a winning trade by covering it with a straddle position? The strategy is best for trading ranges and the market is not always in a trading range. It could take a lot of time waiting for the right set up. At the same time it is also possible to slowly erode your account by continuously entering into trades that are more likely to cost you 7.5% of your investment than give you double returns.

The Last Word On Binary Straddles

Using the returns I described above, which are based on what I would expect to return on trades entered on, you only have to be right one time out of 10 in order to be successful. Taking the assumed $15 loss on each losing trade and the assumed gain of $140 on a winning trade it would look like this: 9 losses x (-$15) = -$135 + 1 win x $140 = a net gain of $5. If you increase your winning ratio to 20% it gets even better, the net return is a gain of $160.

Straddles as a binary strategy are a useful tool. There are risks but they can be outweighed by the rewards. The strategy is sound and if the proper set up develops I will likely use it. The problem is that predicting a trading range, especially one that coincides with available binary options expirations, is very tough. I will be on the look out for potential straddle trades and may even dedicate an account to the strategy.


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