How To Determine Intrinsic Value Of A Nadex Binary Option

Options are different creatures than plain old markets. They move closely to, but do not exactly follow, the market their price is derived from. If their price or premium is not exactly like their underlying markets, how can traders understand their value? There is a term for it. It’s called "moneyness", which is the intrinsic value.

By determining the moneyness of an option, one can form a conceptual value of an option, thereby helping decision making while trading. Moneyness can also be used when conceptualizing the value of Nadex binary options and spread options. To determine the moneyness of a Nadex binary, traders look at the price of the binary.

There are three forms or expressions of moneyness. Each of the expressions has a price level associated with it. There is “in the money”, ITM or I for short. That means if the binary expired now, it would make money. There is also “at the money”, ATM or A for short, which means the strike price is at or around the underlying market price. Finally, there is “out of the money”, OTM or O for short, which means if the binary expired now, it would not make money.  

Related Link: Using Nadex Spreads To Do Premium Collection Trades Everyday In Downward Markets

How do traders know when looking at the price, which form of moneyness a binary is in? To find the answer to this question, one can look at an example of a Nadex binary. A Nadex binary, in brief, is a simple true or false question with a yes or no answer. For example:

Gold (Aug) > 1260 (1:30PM) 43.00/48.00

The question is: Will gold be greater than 1260 at 1:30PM? If a trader thinks no, or this statement is false, and they sell the binary, then the bid price is 43.00 (the price above on the left). If a trader thinks yes, or this statement is true, and they buy the binary, then the ask price is 48.00 (the price above on the right).

The price will fluctuate up and down and then settle at 1:30PM. If, at settlement the price of Gold is >1260, the statement is true and the price settles at $100. If the market is at or below 1260, the statement is false and the price settles at 0. Profit or loss is then the difference between the settlement amount of $100 less the entry price for profit, or the difference between the settlement of 0 less the entry price for loss.

For a Nadex Binary Option, the price of the binary can also be a percentage expression of how likely the binary statement is to actually occur.

In the Money When Buying and Selling

If the ask price of a binary to buy it is $80, how likely might it be that the indicative market (Nadex derived market of the underlying) will expire greater than the binary strike price? It’s fairly close to $100, not considering time, one could say it currently has an 80 percent chance of expiring greater than the strike. Therefore, one could also say the ask price is currently “in the money”.

Now, consider the bid price of the same binary to sell it is $30? So, it is very far away from $100, not considering time, one could say the indicative market currently has only a 30 percent chance of expiring greater than the strike. In this case however, the binary can also be sold. If a trader sold the binary, they are saying the binary statement is false, that the indicative market will not be greater than the strike price, but it will be equal to or lower than the strike price! Therefore, in this case it is also “in the money”.

To view image click HERE

At the Money

Recall the gold binary example from above. The ask price to buy it was $48. There is an approximately 48 percent chance that the Nadex Gold will settle greater than the strike of 1260 or >1260. Turning it around, one could also say there is an approximately 52 percent chance it will not expire above the strike. In this case, it’s almost 50/50 that it could win or lose. When the underlying market price is right at or near the strike price, that is called “at the money” The market is at the strike price so it could go either way.

To view image click HERE

Out of the Money

What if the ask price of the binary to buy it was only $30, but a trader really thought the market was going to move up and stay past the strike, so they bought the binary? When they entered the trade, there was only an approximate 30 percent chance that would happen? Unfortunately, it didn’t go up and stay above the strike and it expired as a loss. What would the moneyness be then? When the trader entered or opened the trade it was “out of the money”, and when it expired it was also “out of the money.”

To view image click HERE

Of course, traders can exit the binary at any time. Traders can exit before expiration for a profit, if the price has moved favorably. Traders can also exit for a loss, if they believe the trade will expire against the position. In this case, the profit loss calculation would be as follows:

To view image click HERE

Here is the complete chart of moneyness for Nadex binary options.

To view image click HERE

For more information on Nadex binaries and spreads and how to trade them and get access to the free binary and spread scanners, go to www.apexinvesting.com. To practice trading binaries and spreads on a free demo account, go to www.nadex.com and click on trading demo, trading account. Apex Investing Institute offers free education, effective tools and a room community of seasoned as well as up-and-coming traders. Together in a supportive environment, along with tools to trade with ease and convenience, traders of all levels can learn how to trade Nadex binaries and spreads as well as futures, forex, stock and options, and gain an edge for successful trading overall. To learn more about how to trade binary options in-depth and for binary options signals, trading strategies, tools and trade rooms see www.ApexInvesting.com.