The Difference Between Binary Options and Forex

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Binary options are tradable instruments that help investors speculate on multiple types of markets using a simple yes or no question.  The term binary means that there are only one of two outcomes where the price of an underlying instrument is either above or below the current price.  The forex market refers to the foreign exchange market where currencies are traded around the clock 24 hours a day. 

Binary options are a derivative instrument where forex is a specific type of market and available on currency pair such as the EUR/USD as well as a multitude of other types of currency pair and financial products.

The most common way investors trade the currency market is via the spot market. This is where currency pairs are traded with a delivery that is two days from the date of the transaction.  If a trader wants to extend the period that they plan to hold the currency pair, then they have to use the forward market.  In the forward market, which is for delivery that is more than 2-days, an interest rate charge is attached to holding the lower yielding currency.

The most liquid currency pairs are the major currencies.  A major currency pair is one where the U.S. dollar is either the base or counter currency.  The other currencies include the Euro, Yen, British Pound, Swiss Franc, Australian Dollar and the Canadian Dollar.  The currencies are the most liquid currencies and provide traders with the best volume to enter and exit a trade.

When you trade the spot or forward currency market you are speculating on the direction of the currency pair.  Generally, the amount you make is predicated on the distance of the move.  For example, you will make more if the exchange rate moves 5% in your favor compared to 1% in your favor.

With binary options, this scenario is not generally the case.  The most common type of is the call or put.  Here you will receive a payout if the price or exchange rate moves in your favor by even the smallest amount.  For example, you will receive a payout even if the exchange rate of a currency pair is just half a pip in your favor.  The payout can range from 60% of the money you trade to 100% of the money you trade.

With spot you can receive leverage that can range from 2-1 to 400-1.  Leverage allows you to enhance you returns by increasing the capital you wager on a trade. For example, with leverage of 100-1 you can take a position that is 10,000 in notional value with just $100.  Even with this type of leverage it is hard to capture the same returns as you would experience if you mastered in trading.  For example, if you received a payout of 80% on a call binary option on EUR/USD $100 trade, you would earn $80.  With leverage of 100-1 on $100 you would need the EUR/USD to move 0.80% compared to a move of half a pip on a trade.

While binary options are products that provide another way to trade multiple types of markets, the forex market focuses on spot and forward currency trading.