How to Use "Probabilities" With Nadex Binary Options

Trading is about probabilities, not winning or losing.  Mark Douglas reinforced this concept in his book, Trading in the Zone.  Though most traders understand this general idea, many do not truly understand the concept of probabilities in trading.  Nadex Binaries can teach traders everything they need to know because they are all about probabilities.  To understand the concept of probabilities, traders must first understand how Nadex Binaries work.

Traders have the option to use the layout referred to as "Pairs", which is very similar to a forex quote table.  Figure 1:  “Nadex Binary Pair Layout” shows what the screen will look like.  The left side, called the “Bid”, is for selling.  The right side, called the “Offer”, is for buying.  The left side goes down from one hundred to zero (100 to 0).  The right side goes up from zero to one hundred (0 to 100).   

Figure 1:  Nadex Binary Pair Layout

Above the Bid and Offer is the “statement.”  The statement at 6:39 AM ET is:  “Germany 30 Jun > 9667 (7 AM). “ There are only two choices for any binary options trade:

• If a trader believes the statement is true, they buy the binary (right side of pair).

• If a trader believes the statement is false, they sell the binary (left side of pair).

In this example, if a trader believes the price of the Germany 30 June contract (underlying is the FDAX) at 7 AM ET will be greater than 9667, they will buy.  Again, if the trader is buying, then they believe that the probability is that the statement is true.  If the trader believes that the price of the Germany 30 June contract will be less than 9667, then they will sell.  If selling, the trader is acting on a belief that the probability is that the statement is false.  If the binary statement is true, at expiration it will be worth one hundred dollars ($100).  If the binary statement is false then at expiration, then it will be worth zero dollars ($0).    

Traders can read between the numbers to find the probability of the price going up, as well as the probability of the price going down.  Figure 2:  “Nadex Binary Probabilities” shows the statement for the 7:00 AM ET expiration for the Germany 30 June contract.  Will the price be greater than 9667?  The red numbers indicate the percentages or “probabilities.”  In other words, 63.5 percent of binary traders believe that the price will be less than 9667 and 43 percent of binary traders believe that the price will be greater than 9667.  

Figure 2:  Nadex Binary Probabilities

It is simple to calculate probabilities. To determine the probabilities that price will close above 9667, the offer is used.  On the offer, the number shown represents the probability of price closing above 9667.  Accordingly, there is a 43 percent chance (or probability) that price will close above 9667.

To determine the probabilities that price will not close greater than 9667, the Bid is used.  On the Bid, to calculate the probability of price closing below 9667, the number is subtracted from 100.  In this case, the calculation would be as follows:

100 - 36.50 = 63.5 percent

There is a 63.5 percent chance (or probability) that price will close less than 9667.  Comparing the probabilities, a trader could surmise there is 20.5 percent greater probability that price will close below 9667.

Probabilities are easy to calculate with Nadex Binary Options.  Although probabilities do not guarantee a profit and are constantly changing, knowing which way the market is "skewed" can help traders make a more informed decision on whether the binary option statement is true or false.  And, because Nadex allows traders to exit their trade at any time up to expiration, if the probabilities change, traders can always exit their positions early.