Trading The Way The Market Goes
Trading binary options should go hand in hand with trading any other financial instrument as it implies the same thing: to find out the direction the market is going and then take a decision based on that analysis.
In the case of binary options, besides telling which way the market is about to move, one should also look at the expiration date involved as it is critical for the profitability of your option.
Sometimes it is possible to trade binary options using a simple and straight forward correlation strategy and for that a couple of things are required.
First of all, correlations can be direct or inversed and one should trade call and put options on two currency pairs, for example, that are inversed correlated. The classical example here goes with the eurusd and usdchf inversed correlation as, because the eurchf peg at the 1.20 level it implies the two majors will move in opposite directions almost tick by tick as closer to the 1.20 level the eurchf gets. However, this is not valid anymore as the SNB (Swiss National Bank) dropped the peg and this made the eurchf to be, again, a free floating currency pair.
Secondly, look to trade correlations between the risk on/risk off environment, in the sense that rarely in a risk on environment the usdcad is moving higher as it is bearish in these situations and put options should be traded.
Risk OFF/Risk ON Environments
A risk off environment implies eurusd, gbpusd, audusd, nzdusd moving in the same direction, lower, while usdcad, usdjpy and usdchf higher, so put options for the first category and call options for the second one are recommended.
And thirdly, the usdjpy and US equities correlation should be traded normally as a direct correlation and if the US equities are bullish, or in a bullish trend, then it doesn’t make any sense to trade put options on the usdjpy.
Trading in a correlated manner implies also avoiding overtrading as this is one of the worst enemies in trading. For example, let’s assume one is trading a call options on the eurusd at the start of the trading week with end of week expiration date.
If market goes against your option during the trading week and until the expiration date and the trader still wants to take a trade then it is advisable to choose a currency pair that is not directly correlated with the currency pair initially traded. For example, if the trader buys a call option on the eurusd and market goes against the trade then it is not wise to trade a gbpusd call option in the same direction as it represents a dual trade and basically forms overtrading.
On the other hand, if the option moves in your favor, adding on breaks it wise or even adding on dips/spikes with different expiration dates.
Trading Correlated Markets
Correlations can be traded also from a cross and its two majors point of view. Let’s take the eurusd, usdjpy and eurjpy example. The first two currency pairs are majors and the last one is a cross. The cross is moving based on the differences the two majors are making when traveling. If the eurusd pair is moving to the upside one percent and usdjpy to the downside as well, then the cross, the eurjpy is staying flat, so avoiding high/low options on the cross is key.
Moreover, when there is a trading setup on the cross, in our example on the eurjpy cross, then the thing to do is to compare the cross chart with the two majors chart and look for correlated price action. In our example, lately, it is obviously the eurjpy is moving closely to the eurusd chart and therefore on a bearish setup on the eurjpy it is advisable to trade either range options, like one touch or boundary for usdjpy pair or put options for eurusd as the eurjpy and eurusd charts recently are the same.
USDJPY and US Equities Correlation
Another correlation that is in place and works like a charm for so many years now is the one between the usdjpy and equity indices, like SP500 or Dow Jones in the United States. The correlation is a direct one and if, for example, usdjpy is moving to the upside and the equity markets are not confirming the move, then one is lying or it is lagging for the moment. If, on the other hand, they are moving hand in hand then trying to see which one is moving slower and insisting in trading options on that one should be a wise decision.