Currency options offer traders staying power and the ability to ride out short term volatility and not get stopped out. The advantage of buying currency options is that they offer you unlimited profit potential combined with limited risk so they offer peace of mind as well as staying power and are a great tool if used correctly.
Currency Options Defined
A currency options contract is between a buyer and a seller and gives the buyer the right (but not the obligation) to buy or sell the underlying currency at a specified price on a specific date in the future. You can buy two types of option which are - call options and put options. You would buy a call option if you expect the price to rise and a put option if you expect the price to fall.
Limited Risk and Unlimited Gains so What's the Catch?
Currency options offer a lot of advantages for traders and the main ones are:
Limited risk - which means that you only ever risk the premium you have paid for the option.
Staying power - It doesn't matter where the price takes the option in the short term, you will still make money if it trades in the money by expiry which makes buying options trading a great strategy with which to cope with volatility.
Of course you pay for this limited risk and staying power and most people do not understand what this cost is and lose. It's a fact that 90% of all options expire worthless but you can enter the 10% of traders, who make big money trading options by following some simple tips.
How to Make Money Buying Currency Options
Lets start with an example on trading the odds which is crucial to understand, if you are going to make money buying options.
Assume You're betting on a horse race and you have a 2:1 favourite and 50:1 outsider which one is the better bet in terms of making a profit?
Its a known fact that bookies calculate the odds according to the horses of winning the race and while the outsider will sometimes prove them wrong, most of the time the favourite will win the race. You don't see many bookmakers go bust and the reason for this is simple – they know how to trade the odds.
The gambler loves betting on the outsider because if his horse comes in, he makes a killing but the problem is he doesn't win very often. More often than not, he losses his money. Its the same in options trading, the naïve trader constantly looks to make a killing and takes the outside bet so let's look at the odds n options and how to get them in your favour.
2 Simple Tips to Make Big Gains in Currency Options
There are just two simple tips, you need to follow to make big gains in currency options and they are - to buy in or at the money options and give yourself plenty of time to expiry.
The further away the option strike price is the worse the odds of the price getting there are, that's why there cheaper to buy. This is the equivalent of an outside bet at the bookies and you should not be tempted to take outside bets. Always buy in or at the money options – sure the potential gain looks less and the option is more expensive but the odds of making money from it are far higher.
The other key to buying options is that the closer to expiry the option gets, the greater effect time decay has on the option premium – at the end of the life of the option time decay accelerates dramatically. The worst possible option to buy is one which is way out the money, with very little time to expiry.
You need to get time on your side when buying options and this means, buying options with plenty of time to expiry. Look to buy options with at least a month or more to expiry. Never be tempted to buy ones which are under a week which are out of the money, there very cheap and you have little chance of making money with them.
Currency option Strategies
There are many option strategies you can use – bull and bear spreads, butterfly's, straddles and more but my own view is to keep things nice and simple. Use puts and calls in or at the money options and get plenty of time on your side and you will have a simple currency trading option strategy which can make you some great ucrrency trading profits.