A buyer either receives a withdrawal or loses the entire investment with no other options – all or nothing. A binary option seller either retains the premium paid by the buyer or must make a withdrawal. For both sides of the trade – buyer and seller – one makes a profit and the other makes a loss. The amount of profit and loss is determined and determined in advance. Traders are also not allowed to cover the open option by taking a position in the underlying asset. That sounds simple enough, just like placing a bet on the roulette wheel for red / black, even / odd, or high / low. 50/50 is easy to understand for traders, and options traders who are used to a wide variety of possible outcomes may find this idea attractive. In practice, however, it is not that easy.
One problem with binary options is that there has been a lot of fraud in trading. Because of this, regulators in many countries have banned binary options trading. For example, Europe and Australia have completed banned retail binary options trading, and the US has been investigating into fraud allegations. The FBI released a report on the issue.
The problem is a lot of money. By 2016, hundreds of complaints had been filed that totaled millions of dollars. These were only the reported cases and the total number of cases cannot be fully known. For example, in some European countries it has been estimated that option fraud is responsible for at least one in four fraud complaints submitted.
The types of fraud come in three forms, according to the FBI, and most of the perpetrators are overseas, making it difficult to regulate their activities. The first form of scam occurs when customers trading binary options do not receive any earned money. Queries are often answered by ignoring phone calls or emails. The second type concerns identity theft, where binary options operators tell traders to provide copies of credit cards, passports and other personal information. Third, there is manipulation of the software that is used to track trading activity. The prices are skewed and even the expiration date can be extended for the winning side of the trade so that no payout is generated.
Fraud is widespread in some countries and website owners advertise widely to recruit unsuspecting merchants. They promised low risk, easy wins, and excellent customer service. Many work as boiler rooms, pressuring unsuspecting traders to jump on the “big buck” train with “unique opportunities” to get rich. Unfortunately, this boiler room approach still works for some traders, and a focus may be on the inexperienced trader who knows little or nothing about options. The promise of low risk and easy fortune appeals to many.
The FBI has estimated that these overseas operators may have fraudulently stolen up to $ 10 billion worldwide using celebrity names and fake endorsement claims to add a touch of legitimacy to the system. [Weinglass, Simona (March 4, 2017). “As Israel-based financial fraud soars, police swoop on 20 suspects as part of global, FBI-led strong.” The Times of Israel] The fraud is such a serious problem that the advertising of the products was banned by Google, Facebook and Twitter as of 2018.
A big problem for binary options is their game attributes. Brokers (the house) have an advantage over traders like casinos so the binary market is not a level playing field. These have been advertised for traders who need little or no experience in the options market and claim, for example, that they are low risk and easy to win that anyone can make a profit. Realistically, the advantage that the organizers enjoy is substantial. You need to win more than half of your trades to break even due to the fees paid by the operators. Since the realistic and seemingly obvious odds of winning are 50/50, traders are unlikely to be able to make consistent profits.
Despite the widespread fraud known to exchanges and regulators, these products can be traded on most US exchanges and were approved by the CBOE back in 2008. They are known as “Fixed Return Options” (FROs) and theoretically use a settlement index to reduce the risk of price manipulation. CBOE offers these on the SPX (ticker BSZ) and the VIX (Ticker BVZ).
For traders who need to trade binary options, some clever steps are recommended.
- First, make sure that all platforms you use are registered with the SEC. This can be checked on the EDGAR website.
- Contact the CTFC to make sure the platform offers us a specific contract market. Thousands of websites promote binary options, but only a few are eligible. Check this out Here.
- Check the company’s registration status with the financial industry regulator.
Check the CFTC Red List, also known as the Registration Deficient List, with the names of foreign websites that are supposed to register but have not done so.
After all, don’t invest in something you don’t understand. If you cannot explain the investment opportunity in a few words and in an understandable way, you may need to rethink the potential investment.
The smart approach to binary options is to proceed with caution. Even with public quotations on index bases, claims of low risk should be questioned. It can be assumed that the US regulators that offer binary options domestically are able to carefully monitor and control the setting and tracking of prices. Despite claims to the contrary, nothing is certain. Some traders continue to track website-based binary options products overseas without verification, even knowing the warnings from worldwide regulators.
Michael C. Thomsett is a widely published author with over 80 business and investment books, including the best-selling Get started with options coming in its 10th edition later this year. He also wrote the recently published The math of options. Thomsett is a frequent speaker at trade shows and blogs, as well as on Seeking Alpha, LinkedIn, Twitter, and Facebook.
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