Learn the differences between options and forex to determine which trading instrument may be right for your trading style.
The world’s financial markets offer a number of opportunities for traders looking to turn a profit in a day, a week, or even in a few months.
Forex traders speculate on the rise and fall of one currency against another.
Popular currency pairs include GBPUSD and EURUSD. You can buy/sell currencies or try options trading.
In this article, we are going to look at vanilla options trading vs. forex trading, the pros and cons of both, and how to select the right broker.
What is Options Trading?
In simple terms, options offer a variety of options in the financial markets.
How to Options Work?
They are in a class known as derivatives but don’t let this put you off. The value of options depends on the value of the underlying asset.
Vanilla options are financial instruments that enable purchase or sale of an underlying asset at a pre-determined strike price inside a defined timeframe.
FOREX vs STOCK Market! Which one is BETTER and WHY?!
Vanilla options are a separate asset class to ETFs, CFDs, commodities, etc. Traders use options as a way to hedge against losses.
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They can also generate recurring income in a well-balanced portfolio, and in the case of forex, as a way to speculate on which way a currency will move. Vanilla options can be combined with exotic and binary options to create custom outcomes.
How to Options Work?
The two main terms you need to know are Call and Put. Call and put options, which give their owners the right, but not the obligation to buy or sell an underlying asset, comprise vanilla options.
Traders buy Call options if they think the market will rise.
They buy Put options if they believe a currency will lose value. Options have expiration dates; the longer the expiration date, the higher the premium.
Traders can easily buy or sell options from popular Forex Brokers like easyMarkets.com.
Here’s what you need to know:
Market Volatility. Options are affected by market volatility. The more volatile the market is, the higher the premium.
The strike price is the price at which the trader chooses to execute the option.
Premium. When a trader buys an option, he pays a premium. When he sells an option, he receives a premium.
Options Trading Vs Forex Trading
In forex trading, a forex trader buys or sells a currency, depending on which way he thinks the market will move.
Pros & Cons of Forex Trading
A physical exchange of currencies takes place immediately.
In vanilla options trading, the trader buys a Call option or sells a Put option. The physical exchange of currencies takes place at a future date, but in many cases, a trader closes their options contract before the expiration date, so no currency exchange occurs.
Call options are safer, as the option can be sold at any time and the potential loss is no more than the premium paid.
With a Put option, the trader will make a loss if the underlying asset is worth more than the strike price when the option expires – and his losses are potentially limitless.
Binary options are slightly different to vanilla options in that the buyer receives a payout if the price of the underlying asset rises or falls below the current price at expiration of the option. Binary options offer higher leverage but are a high-risk product – if a trader ends up making the wrong decision, he loses his premium, and potentially a lot more besides.
Vanilla options are an attractive product for traders, as they can use them to predict which way the market will move.
But use them wisely and use all the analytical tools at your disposal.