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Trading forex currency pairs during the release of Non Farm Payrolls is very dangerous and can lead to margin calls if the market goes against you. In this article, we will look at a better way to take advantage of the high volatility during the news using Binary Options.
The release of non-farm employment data is known to lead to high market volatility, which can trigger strong moves in the forex, commodities and futures markets. In order to get an idea of how the markets might be moving at the time this report was published, in the table in Figure 1 I have summarized the average volatility figures for each instrument from my 2015 market volatility report.
Figure 1: Impact of nonfarm payrolls report on market volatility. Here you can see the average movement of indices, commodities and currency pairs for 2015 after the release of the nonfarm payrolls report.
Volatility of opinions
This year, the markets have shown even more volatile movements due to expectations of a potential increase in the rate. For example, in June, when the numbers came out much worse than predicted, in one 15-minute bar the price of gold rose from a minimum of 1223.2 to a maximum of 1246.1 (almost 23 points, or 230 ticks). And the USD / JPY currency pair within one 15-minute bar dropped from a high of 108.81 to a low of 107.77 (or by 104 points). Then, in July, when the numbers came out above forecasted, the USD / JPY currency pair rallied 105 points, while gold was down more than 22 points (or 220 ticks).
Benefits of Binary Options
Generally speaking, binary options offer traders to trade with limited risk and limited profit. When opening a position, traders choose their level of risk, and they cannot lose more than the amount they pay when opening a position. Since binary options have limited exposure to open positions, they are ideal for trading during periods of high volatility, which usually occurs during news releases .
A binary option order ticket provides you with all the information you need to decide whether to open an option contract or not. Figure 2 shows a typical example of a binary option order ticket.
The order ticket immediately defines the following actions:
- The strike price and expiration of the option contract (New York time);
- Current price (indicative Nadex index);
- Hours and minutes before the expiration of the option contract;
- The price to open a long or short position;
- Maximum loss (in red box);
- Maximum profit (in a green box).
Figure 2: Ticket of a binary option order. Here you can see the strike price and expiration of the option contract, the current price, hours and minutes before the expiration of the contract, the price to open a long or short position, maximum loss and maximum profit.
Figure 2 shows an example of the strike price of an option contract for the USD / JPY> 103.46 currency pair as of 8 a.m. on October 19, 2016. If the trader agrees that the price of the USD / JPY pair will be above 103.46 at 8 am, he buys this contract. The risk is $ 30 per contract or $ 300 if the trader buys 10 contracts (red arrow). The maximum profit on it, if the contract is held until the expiration date and the price is higher than 103.46, will be $ 700 (green arrow).
Figure 3 shows a chart with an example of a binary option for the USD / JPY currency pair; if a trader expects an upward trend , it has the following options:
- Exercise In The Money (ITM) – strike price 103.34 is below the price currently being traded, risk is $ 63.75;
- Exercise at Strike Price (ATM) – strike price 103.38 is at the price currently being traded, risk is $ 50.75;
- Exercise Out of the Money (OTM) – The strike price of 103.42 is above the price currently being traded, the risk is $ 38.25.
Figure 3: Four strike prices and much more. Here you see four strike prices for the 2-hour binary options on the USD / JPY currency pair, although there are many more available.
Although the chart in Figure 3 shows only four strikes for the two-hour binary options on the USD / JPY currency pair, there are always 19 strikes available at a strike width (distance between strikes) of four points. There are a total of nine offered strikes for 2-hour gold binary options at one pip width. This is very important information and is coupled with the average price action on the nonfarm payrolls report because traders can now calculate how far they can set their strike before the report is published.
Let’s take a look at the following example of using the nonfarm payrolls report on October 7, 2016. Immediately before the news was released, the markets were trading at the level of:
- Gold: 1256.8
- USD / JPY: 103.61
As indicated in the table in Figure 1, upon the release of Non-Farm Payrolls (Non-Agricultural Employment Report), the average gold movement is 133 ticks (or 13 pips) and 84 pips for the USD / JPY currency pair. Since for an option to be exercised in the money (ITM) the trader needs the price to move two strikes, a good rule of thumb is to divide the average move by four to determine how much you should go to exercise out of the money (OTM ). In this case, you should not go further than three pips in gold (13 pips divided by 4) and no further than 21 pips in USD / JPY (84 pips divided by 4).
By exercising an out-of-the-money (OTM) binary option, you can mitigate your risk by trading five contracts on each instrument you see in Figure 4.
The total risk exposure for a trader trading five contracts for each instrument was fixed at $ 292.50. The total potential return based on the $ 100 maximum payout minus the risk paid at the time the option was opened was $ 707.50. If all contracts are executed in the money, the return on investment will be 242%.
Unlike futures or currency pairs, where the price can go beyond the stop loss level and you can lose more than your initial risk limit, in binary options the risk is guaranteed. In other words, you cannot lose more than the $ 292.50 that you already paid when you entered the option contract, regardless of the outcome of the option exercise.
In addition, you can immediately pinpoint your potential outcomes if you hold the option contract until it is exercised. If you hold an option contract until it is exercised, you have only one of two possible outcomes:
- You will either lose the amount you paid for the risk, or
- You will receive full potential profit.
However, when trading American-style binary options, you can also exercise early and change your profit target. For example, since the binary option on gold had not expired by 10am, the following profit target was set:
Gold: profit target to capture $ 367.50.
Figure 4: Executed orders. To mitigate the risk, five binary options contracts for each instrument were closed out of the money (OTM).
Figure 5: How was the option exercised on the USD / JPY currency pair ? Immediately after the publication of the data, the USD / JPY currency pair began to move rapidly against the supposed contract for binary options, but then resumed its downward movement, and the option closed in the money (ITM).
Figure 6: How was the Gold Option Exercised? The gold price instantly jumped in our favor and the profit target was met.
As news creates volatility, traders can further limit their risk by exercising an out-of-the-money (OTM) binary option.
The 15-minute charts in Figures 5 and 6 show what happened after the release of the report (profit and risk per contract; the black line indicates at what price the given currency pair was trading at the moment the option contract was opened). The red arrow on the USD / JPY chart in Figure 5 shows the price level where the short position on the binary option contract was executed. The green arrow on the gold chart in Figure 6 shows the price level where the long position on the gold binary option contract was executed.
Immediately after the publication of the report, the USD / JPY currency pair first moved against the trader’s binary option, but then resumed its downward movement, and the option contract was fulfilled in the money (ITM). The price of gold immediately passed in favor of the trader, and the profit target was achieved.
Other news meanings
While the nonfarm payrolls report creates volatility in the markets, there is a plethora of market news that can be traded with binary options. For example, a crude oil inventory report is typically released every Wednesday at 10:30 am ET. The Crude Oil Inventory Report offers trading opportunities for both oil and the USD / CAD currency pair (USD / CAD will generally move in the opposite direction of the crude oil price movement).
The inclusion of binary options in your arsenal allows you to trade them at a time when the published news could bring some volatility to the markets. And, if the market is going against you, binary options can help limit your risk.
The dates and times of release of Non Farm Payrolls reports and other important news can be found in the Economic Calendar .