How To Properly Use Technical Analysis in Binary Options

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The Most Important Technical Indicators For Binary Options

Consider the following bets:

  • Pay $45 to bet that the price of gold will be above $1,250 at 1:30 p.m. today. Get $100 ($55 profit) if you win, lose $45 otherwise.
  • Receive $81 now to bet that NASDAQ US Tech 100 index will go below $2,224 at 2 p.m. today. Keep a profit of $81 if your prediction comes true. If it does not, lose $19.
  • Pay $77 to win $100 if the USD-JPY forex rate goes above 78.06 at 2 p.m. today; you lose $77 if it does not.
  • Gain $33 if you bet on the price of bitcoin will go below $379.5 at 3:00 p.m. today. If it doesn’t drop that much, lose $67.

Welcome to binary options. All or nothing, one or zero, these securities are available on Nadex and the Chicago Board Options Exchange (CBOE). Binary options allow traders to make time-bound conditional bets on predefined values of stock indices, forex, commodities, events, and even bitcoin values. Like a standard exchange-traded option, each binary option has an option premium ($45, $81, $77, and $33 in the examples above), a pre-determined strike price ($1,250, $2,244, 78.06, $379.5), and an expiry (1:30 p.m., 2 p.m., 3 p.m. today).

The differentiator is the settlement price that remains fixed at $0 or $100, depending on the option condition being fulfilled. It keeps the net profit (or loss) fixed. The option premium also remains between $0 and $100. (Related: Guide to trading binary options)

Calculating Probability

Since binary options are time-bound and condition-based, probability calculations play an important part in valuing these options. It all boils down to “What is the probability that the current gold price of $1,220 will move to $1,250 or above in the next four hours?“ The determining factors include:

  • Volatility (how much and is it sufficient to cross the threshold/strike price?),
  • The direction of the price move, and
  • Timing.

Technical indicators suitable for binary options trading should incorporate the above factors. One can take a binary option position based on spotting continued momentum or trend reversal patterns. Let’s look at some of the popular binary option technical indicators:

  • Wilder’s Directional Movement Indicators (DMI) Average Directional Index (ADX): Composed of three lines, namely ADX, DI+, and DI-, and their relative positions, this indicator aims to capture the strength of an already identified trend. Here is the table for interpreting the trends:

Position

Momentum

ADX Value > 25

ADX Value

Here is an illustration, using 3M Company (MMM) stock:

Image courtesy StockCharts.com

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Depending upon the identified momentum and trend strength, an appropriate buy/sell position could be taken.

  • Pivot Point(in conjunction with support and resistance levels): Pivot point analysis helps determine trends and directions for any given timeframe. Because of the flexibility in timing, pivot points can be used for binary options, particularly for trading highly liquid major currencies. A good example (with calculation and graphs) is included in the article Using Pivot Points in Forex Trading.
  • Commodity Channel Index (CCI): The CCI calculates the current price level of a security relative to the average price during any given timeframe. The average price level is usually the moving average. Time periods can be selected as desired, allowing the trader flexibility in choosing when a binary option expires. The CCI is useful in identifying new trends and extreme conditions of overbought/oversold securities. It is very popular among day traders for short-term trading and may be used with additional indicators such as oscillators. In the below formula “price” is the asset’s current price, “MA” is the moving average of the asset’s price, and “D” is the normal deviation from that average. High values above +100 indicate the start of a strong uptrend. Values below -100 indicate the start of a strong downtrend. The CCI is computed with the formula:
  • Stochastic Oscillator: In an interview, the creator of the Stochastic Oscillator, Dr. George Lane, said “it follows the speed or the momentum of price. As a rule, the momentum changes direction before price.” This important underlying detail indicates extreme cases of overbuying and overselling, allowing reversals for bullish and bearish phases to be identified. The crossover of %K and %D values indicate trade entry signals. Although a 14-day period is standard, binary option traders can use their own desired timeframes.

%K = 1 0 0 ( C − L14 H14 − L14 ) where: C = most recent closing price L14 = low of 14 previous trading sessions H14 = highest price traded during same 14-day period \begin &\text <\%K>= 100 \left ( \frac < \text– \text > < \text– \text > \right ) \\ &\textbf \\ &\text = \text \\ &\text = \text \\ &\text = \text \\ \end ​ %K = 1 0 0 ( H14 − L14 C − L14 ​ ) where: C = most recent closing price L14 = low of 14 previous trading sessions H14 = highest price traded during same 14-day period ​

Levels above 80 indicate overbought, while those below 20 indicate oversold.

  • Bollinger Bands: Bollinger bands capture an important aspect of volatility. They identify upper and lower levels as dynamically generated bands based on recent price moves of a security.

Commonly followed values are 12 for simple moving average and two for a standard deviation for top and bottom bands.

Contraction and expansion of the bands indicate reversal signals that help traders take appropriate positions in binary options. Overbought situations are indicated if the current market price (CMP) is above the top band. While overselling is indicated when the CMP is lower than the lower band.

A challenge in binary option trading is correctly predicting the sustainability of a trend over a given period. For example, a trader may take the right position for an index, predicting it would hit 1250 at the end of a five-hour period, but the level was achieved in the first two hours. Constant monitoring is needed for the rest of the three hours if the trader plans to hold the position until expiry, or a predetermined strategy should be executed (like squaring off the position) once the level is reached.

The Bottom Line:

The technical indicators discussed above should be used for timely actions with constant monitoring. One major disadvantage with technical indicators is that the results and calculations are based on past data and can generate false signals. Traders should practice caution with detailed backtesting and thorough analysis for high-risk, high-return assets like binary options.

Technical Analysis – How To Analyse Financial Markets

Technical analysis is the best way of predicting short-term price movements. For binary options traders, the use of technical analysis is without alternative. To help you create your own successful technical analysis strategy, this article will explain the basics of technical analysis and its use in binary options trading.

In this article, you will learn:

  • What Is Technical Analysis?
  • Why Do Traders Use Technical Analysis?
  • Should Binary Options Traders Use Technical Analysis?
  • What Could A Technical Analysis Strategy Look Like?

With this information, you will be able to understand the logic behind technical analysis and use a technical analysis strategy to trade binary options.

What Is Technical Analysis?

Technical analysis is a way of understanding what has happened to the price of an asset and predicting what will happen to it next. The unique characteristic of technical analysis is that it focuses solely on price movements.

When they analyse a stock, for example, technical analysis ignore everything about the company behind the stock. They are not interested in its earnings, nor its economic future, nor the quality of its products. All they look at is what its stock price has done in the past and which implications this history allows for the future.

Technical analysis is based on a simple assumption: everything that you can know about a stock is already factored into its price. By looking at the price, you can learn everything about a stock, and you can learn a lot more than with any other form of analysis.

Predicting Financial Markets

For example, assume that you are supposed to predict how many people go into buildings every day. You know that thousands of people a day went into a building for a year. You also know that only two or three people a day went into the building next to it. This knowledge is all you need to predict that more people will go into the first building than into the second.

This process is exactly how technical analysis works. It focuses solely on the thing you are trying to predict and ignores the reason behind it.

In the building example, the first building might be a train station and the second one a small house. You could spend a lot of time gathering this type of knowledge, but what good would it do you? It would only tell you what you already know from looking at the numbers alone.

But if there are two small houses, what do you predict now? You would need to find out which house houses a family and which a single person, which of them has more friends, and so on – an endless task that would never get you all the information.

Alternatively, you could also analyse how many people went into each house in the past.

  • If the relationship is 10 to 2, you know what you have to predict. Likely, more people will go into the house with the 10-people average.
  • If the relationship is 5 to 4, you could think that this one is too risky to predict and analyse the next houses.

Technical analysis adapts this philosophy to financial investments.

  • If the price of an asset currently is rising, it is unimportant to understand why. The fact that it is rising tells you everything you need to know to make a good investment.
  • If the price of an asset currently is falling, it is unimportant to understand why. The fact that it is falling tells you everything you need to know to make a good investment.

Technical analysis follow this principle and also allows you to analyse many characteristics

Why Do Traders Use Technical Analysis?

When traders of all types analyse the market, they have two options. They can use:

  • Technical analysis, and
  • Fundamental analysis.

We have already explained what technical analysis is. Fundamental analysis is the prediction of price movements based on economic data, earnings, and other indicators of a stock’s, commodity’s, or currency’s future.

Fundamental analysis assumes that there is a direct connection between these values and the price of an asset. While the market often fails to reflect this connection right now, fundamental analysts assume that the price will eventually adjust to these factors.

There are several good reasons why traders choose technical analysis over fundamental analysis.

There Are Many Things That Are Impossible To Quantify

For example, the electric car company Tesla is valued at a much higher price than many other car makers in the world. This is despite the fact that Tesla has never turned a profit and only sells a fraction of the cars that other companies sell.

How do you justify this price based on technical analysis? Many people buy Tesla because they like Elon Musk, and because they think that electric cars are the future. But why do so many people put so much more trust in Elon Musk than in other managers? After all, they never heard of most of these other managers, so how can they mistrust them?

Trust is one of the many things that are impossible to quantify. If traders trust a CEO, does that mean Tesla should trade at £50, £500, or £1,000?

Fundamentals Do Not Show Whole Picture

There are many other things that are impossible to quantify. Coca-Cola seems to have an advantage over Pepsi but why? Google has an advantage over Yahoo, Mercedes-Benz over Renault, and so on. How do you quantify image and similar soft criteria?

With technical analysis, you can avoid such impossible decisions. When the stock of Coca-Cola is worth two times more than the stock of Pepsi, traders apparently quantify the value of the stock twice as high. If the gap is increasing, you know how to invest. There is no need to understand why.

With fundamental analysis, such simple investment decisions are impossible.

Which Market Influence Will Be Strongest?

Regardless of how much data a fundamental analyst gathers, they can never paint a complete picture of a stock’s worth. As we already pointed out, there are many factors that are impossible to quantify and therefore inaccessible to fundamental analysis.

Additionally, even the quantifiable factors are too numerous to consider them all, and it is impossible to predict which factor will influence the price the strongest.

For example, assume these scenarios:

  • You are looking at the stock of a company whose profit has increased, but its sales have decreased. Which factor will be more important to traders?
  • You are looking at the stock index of a country who has had an increase in open jobs and an increase in unemployment. Which factor will be more important to traders?
  • You are looking at the stock of a company that has cut 1,000 jobs. The savings could make the company more profitable, but it could also be a sign that the company is in trouble. Which factor will be more important to traders?

In hindsight, these questions are easy to answer. There are often cases in which so-called experts on news networks predict that if the central bank decreases the base rate by 0.5 percent, stocks will rise. But when the central bank does exactly that, stocks fall. In the evening, the same analysts will say that traders apparently expected even more – which is easy to say in hindsight, but impossible to predict.

Hindsight Fallacy

Traders have to make a prediction in advance, which is why they have to avoid letting the perfect vision of hindsight analysis trick them into assuming the same clarity for the future. The future is a much more unpredictable place, and it is impossible to predict which fundamental factors will dominate the price of an asset.

Technical analysts never ask why something happens. Therefore, they can avoid having to predict how the market will react to specific influence and which of these influences will dominate. They can sit back, wait for the market to show its hand, and then go with what they know instead of relying on their best guess.

Only Technical Analysis Can Make Short-Term Predictions

Maybe the biggest problem of fundamental analysis is that it is incapable of making short-term predictions.

Even if you knew everything about an asset, if you knew what will affect the asset and how it will affect it, you would only be able to predict how this asset will do over the next year or longer. You would be unable to use this knowledge to create short-term predictions, for example whether the price will fall over the next hour or the next day.

Very often, there are no fundamental influences on an asset. Quarterly reports are only released all three months, and in between, there can be weeks of quiet. Despite this lack of fundamental influences, almost all new stocks create a new price every second or even more often.

Fundamental analysis is incapable of explaining how these small movements come about and predicting how they will develop.

What Moves Asset Prices?

The truth is that most market movements are the result of random events.

  • When a large index fund decides to replace one stock with another, it has to sell off the first stock and buy the second one. Since selling such large positions all at once would lead to an immense sudden price rise or fall, funds sell and other large institutional investors buy and sell stocks in many small packages. These phases can take weeks or months, during which the investor constantly pushes the price in the same direction. Only technical analysis can recognize the consequences of these events and recommend the right investment decisions.
  • When a single person decides to buy or sell an asset, they rarely wait for the fundamental data to change. When they get a birthday present, an inheritance, or a raise, they buy. When they need money to repair the car, they sell. Fundamental analysis is incapable of predicting these movements that influence shorter time frames. Technical analysis can understand their effects and predict what they mean for the future.

All other market movements result from similar random influences. Only technical analysis can help you understand how these movements will play out.

Should Binary Options Traders Use Technical Analysis?

For binary options traders, the use of a strategy based on technical analysis is almost without alternative. Let’s analyse the reasons for this statement first and then take a look at the only exception.

  1. Binary options are short-term investments, and only technical analysis can create valid short-term predictions.
  2. Binary options require you to make many trades. Because binary options use short expiries of a few minutes to a few hours, you can easily make ten or more trades a day. Only technical analysis allows you to make this many trades. Fundamental analysis would require you to find out everything about a company, country, or commodity before you invest – which is simply impossible to do ten times a day.
  3. Binary options require you to be quick. On the short time scales of binary options, opportunities come and go within minutes. If you tried to perform fundamental analysis in this time, the opportunity would be long gone before you are done. Technical analysis enables you to take the time in advance and define a strategy that allows you to make a decision within seconds.

The only exception to these points is a single fundamental strategy that can work with binary options: trading the news. When important news is scheduled to hit the market, you know that they will result in a short, strong movement. Binary options are the ideal tool to trade these movements.

Even in this case, however, technical analysis can be helpful to predict how far the resulting movement can move and when it will end.

Summary On Technical Analysis

Technical analysis is the best and only way of predicting short-term market movements. For binary options traders, using a strategy based on technical analysis is almost without alternative – the only exception would be a news trading strategy.

Technical analysis focuses solely on price movements. This is the only way to understand how other traders feel about an asset because the infinite amount of influences is impossible to categorize and interpret by fundamental analysis.
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How Analysis Can Help You Trade

In broad terms, binary options technical analysis is studying the past price and trading volume of assets to help predict future rates. It is achieved using some tools to assist you in identifying technical patterns, indicators and strategies to help you develop future trading strategies.

To use technical analysis to its full potential, you are going to need to know the best forms of data to use, how to interpret that data and where to find these tools necessary to maximise your binary options success. Using such information, especially with short term expiry options, can make a massive difference to whether you win or lose.

But how do you know where to start and how do you make full use of all of the many forms of data that exist? To increase your understanding and help you to make sense of the technical analysis available to you and every other trader, we have provided this guide.

In this guide, you will learn:

    What is technical analysis and how it helps The factors that affect the price of assets How to analyse the binary options markets

Take your next step:

What is Technical Analysis

As the name suggests, technical analysis, in its purest form, is using various information to analyse the markets, the past price of assets, trading volumes and trends to identify patterns and predict how they are likely to perform in the future.

By carefully studying the information and data available, you can learn to uncover and identify patterns that can help you to predict the future movement in the price of assets correctly. The ability to predict the market is especially useful when it comes to short term expiry options. Technical analysis is not a new thing, and it has a proven track record in all sorts of trading.

Over the years, and with the advent of technology, this has evolved to become a phenomenon with many strategies being developed based on the data and its use. Charts have become a significant business, and there are now several recognised charting strategies and software packages available to assist you.

Trading indicators (or tools) include trends, momentum and volumes traded and can reveal many things about the performance of an asset.

The more information you have and the better your knowledge, the more power you have.

What Affects Asset Prices

With assets including oil, rice, coffee, gold, silver, currencies and many more available to trade binary options in, many factors can affect the price of an asset. These incidents can sometimes impact prices significantly and often without warning.

While the more localised factors such as company news, buyout rumours, executive and leadership changes can affect the price, so too can news stories, global security fears and other headlines. While technical analysis can help to predict movements based on past data, it can’t help you if a natural disaster occurs in a major world city.

These events can have a substantial impact on the markets around the globe and sometimes take some time to recover. Short term expiry options are less prone to these changes as they tend to happen in minutes, but if you have intraday trades, for example, an unexpected global event can have a disastrous impact on the price of assets resulting in some significant losses.

Using technical analysis, therefore, should only ever be used as a guide and not an absolute.

Why Analysis is Important

Like anything, the more information you have and the better your knowledge, the more power you have. The saying, knowledge is power is especially true when it comes to binary options. The more information that can be digested and applied to your trades, the more successful you are likely to be. For those that are new to binary options and trading in smaller volumes, often decisions can be made based on emotion or a feeling.

You may rely on a gut instinct to predict the prices without anything to substantiate the decisions made. In this instance, it is more of a gamble than a science. Using the analytical information available allows for better, more informed decisions. You can learn to develop your strategies and to have more evidence to base on which to base your decisions.

If you want to become a better trader and make real money out of it if then you are going to need to use technical analysis and all the available trading indicators, whether you are a serious investor or a hobby trader, making full use of the statistics and past trends will advance both your knowledge and success. The more success you have, the more you will enjoy it.

How to Analyse The Markets

The key to effectively analysing the markets is to use the right indicators and tools. Charts are a big part of this, and most traders use them in their various formats. From line charts to candlestick charts and many more, most brokers offer some charting tool as part of the package when opening an account. While these will provide a fair amount of information, there are alternatives.

More detailed charting software is available from external sources. Considering your trading strategies and tools will also depend on which types of assets you choose to trade in. For currency pairs, perhaps consider the Pivot Point strategy while if you are day trading in commodities, then you may select the CCI (Commodity Channel Index).

The critical thing to bear in mind is that no one becomes an expert overnight and that no one tool will be suitable for everything. Start with simple charts, get familiar with them, use them to help with trading small volumes and then expand your knowledge and use of analysis as you progress.

As your experience grows, so will your understanding and use of the technical tools available along with your strategies and techniques.

Shelly is proud of her current position as Head of Brand for a well-known organisation that owns several brokerages in the trading sector. She’s consulted for us since 2020 and readers can benefit from her insider knowledge of how brokers work.

Using technical analysis for success in binary options trading

Technical analysis is used by the majority of professional traders to spot profitable opportunities for trades before they occur. The idea is based on the interpretation of specific chart patterns, those shapes and movements created by fluctuations in the price of an asset, which tell traders when a future price movement is likely. Many of the patterns and setups used by traders are considered as highly reliable with the cyclical nature of finance markets allowing these to be back tested over many years. It is also true that the sheer popularity of technical analysis has contributed to their reliability, as more traders recognise the patterns and place their trades according to these they become self-fulfilling. Whilst sceptics point out that this may show technical analysis as false signals, for those wanting to trade in the direction of the majority it is very helpful.

What are the alternatives for binary options traders?

For binary options traders, the short-term expiry times of these options make technical analysis particularly useful. Although technical patterns can be seen on all price charts, from sixty second to monthly timeframes, they can be very effectively applied to even the shortest periods of time. Since the same setups are followed regardless of timeframe, binary options traders looking for short-term opportunities can simple learn to interpret a handful of the most popular setups to provide them a winning edge in the binary options market.

For those who are looking for an alternative to technical analysis, the possibility to use fundamental analysis is also available to binary options traders. This form of analysis diverges from technical chart studies and looks for the underlying “real” reasons for price movements. These are known and fundamental influences driving prices higher or lower and are often linked to key economic indicators/policies which influence the price of underlying assets. Essentially, these fundamental drivers are the cause of many of the charting patterns which are followed by technical traders. For longer-term traders, fundamental analysis can be particularly profitable and, even for short-term binary options price movements on news can also be a very profitable binary options strategy.

What are the most effective technical setups for binary options traders?

Technical analysis is a very broad subject and covers a large number of technical patterns, indicators and strategies. Luckily, however, it is also one of the most accessible methods for new traders to look for profitable setups and many can begin by just learning a handful of technical setups before applying indicators and additional filters to these in order to improve entry and exit strategies.

For binary options traders, it is clear that much of the charting software provided by brokers is not really up to scratch for detailed technical analysis and the first thing that should be considered is to get hold of a decent charting software package. Many brokers offer demo versions of the Metatrader platform free of charge and this is both excellent for charting of the major forex pairs, but also one of the platforms which most of the industry’s technical indicators are designed to be used. For those wanting to trade stocks or commodities, there are a number of excellent trading packages which provide real-time charting which technical studies can be applied.

In terms of the most effective set-ups for binary options traders, these are going to be technical patterns which provide a high probability of price moving, and remaining higher or lower than the strike price. This means that traders are likely to benefit from looking for technical patterns which either predict a continuation in the current trend or a nearby reversal. With the help of support and resistance zones, technical patterns such as ‘double-tops’ and bottoms are perhaps the easiest and one of the most effective setups for price reversals which can be found on any timeframe. In addition to these, technical indicators such as MACD and RSI can also confirm if the chart signal is valid for a high-probability trade. For continuation trades, some of the most straightforward chart setups are “flags” and “pennants” which can be found within a strong trend. Additionally, break-outs of areas of consolidation are both simple and highly effective methods for binary options traders to consider.

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Market Analysis For Binary Options

Remember back when you enrolled yourself into the School of Pipsology, we talked about “The Big Three” types of market analysis. In case you forgot, they are:

Fundamental Analysis

Trading the News

One way to make use of fundamental analysis would be to go with a trade-the-news strategy.

For binary options, this can be particularly effective when you trade simple Up/Down options.

After all, you would simply need to get an idea how price may react to better/worse than expected data and how strong the reaction may be. You just have to be confident that price can reach the strike price of the option that you bought.

For example, you plan to trade the Australian retail sales report. Let’s say you have a bullish bias on the results.

Chances are that a better-than-expected result will spur the Aussie to new highs, so you would look to buy a “call” option on AUD/USD.

Now let’s say that, as you expected, we saw a better-than-expected result. Luckily, AUD/USD also rose, rising above the strike price. Paycheck time, baby!

Of course, there are a couple of factors to take into consideration when playing the news.

First is the potential for volatility. When playing a news report and buying a binary option, you have to be fairly confident that the event will spark enough volatility so that price can reach the strike price and stay above/below that level.

If you try trading a report that rarely causes a ripple, you’ll be throwing money down the drain.

Second, you have to factor in the time component of binary options.

When trading binary options and implementing a trade-the-news strategy, you may also want to consider going with one-touch options since price would only have to touch and not necessarily close at a particular level.

You can also try the Out of Range options if you expect the price to move with strong momentum away from its previous range.

With this option you don’t have to pick a direction, just decide whether or not the market will move big time in one direction or another.

Technical Analysis

Love using those fancy-schmancy indicators like moving averages, Bollinger bands, and Stochastic?

Don’t be afraid to slap these indicators on your trading charts when you plan to trade binary options!

These are used across all sorts of trading markets and not just spot currencies.

Just make sure you have a good understanding of how each indicator works before incorporating it into your analysis.

Studying technical levels and inflection points may also prove helpful when you trade binary options.

Let’s take a look at this example on GBP/USD.

Price has just broken down from a double top.

With this behavioral pattern, price normally continues to trade lower at a distance equivalent to the height of the double top.

One way you could play this is by taking a One-Touch trade.

If the strike price that your broker offers is somewhere between 1.5450-1.5550, which is within the height of the double top, buying a “put” option might be a setup worth considering.

Sentiment Analysis

Sentiment analysis is the task of measuring the market’s current “feeling” with regards to broad risk flows.

Are traders confident in buying up risky assets or would they rather reduce risk by buying safe-haven assets or going into cash? This type of analysis will prove to be particularly useful when trying to hop on trends.

Will EUR/USD break for new highs? Or do you think the trend is overdone and there’s not enough momentum? You can use sentiment analysis to gauge how the market is feeling.

If you’re fairly confident that market sentiment will favor a risk-on environment, you could consider purchasing a “call” option on a risk currency or asset (e.g., Australian or New Zealand Dollar, Equities, Commodities, etc.)

On the flip side, if you think a reversal in sentiment is in play and depending on how overdone you believe the move is, you could consider purchasing a “put” option on those same risk currencies or assets.

Combination

Just as in spot forex trading, it’s not necessarily a case of choosing which type of analysis you’re going to use because they’re not mutually exclusive.

In fact, you can combine all of these types of analysis to form the basis of any trade that you take.

Fundamentals can help give you a bias as to what direction you want to take, while technical analysis will help determine the chances of the market reaching, breaking and finding support/resistance at a certain price.

Meanwhile, sentiment analysis may let you know whether the market is in a risk-on or risk-off mood.

In the end, the key is for you to learn from all your mistakes and gain experience. Over time, this process will help you fine tune your analysis and help you develop good trading practices.

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