Binary Options Arbitrage
In other forms of financial investment, arbitrage trading virtually guarantees a profit. In its simplest definition it involves a trader taking advantage of discrepancies in the price of an asset or similar assets in different markets. If you are able to identify these price differences, it is possible to lock in a profitable trade by purchasing an asset in one market at a lower price and selling it in another at a higher price, profiting from the difference.
However, these price differences need a very highly trained or experienced eye to spot and the small spreads mean that in order for the profits generated to be meaningful, you need to carry out very large transactions. This fact has meant that arbitrage trading is often left to large institutional traders or to people with very sophisticated trading software. It therefore begs the question: does the simplicity of binary options trading lend itself to the opportunities that arbitrage trading offers?
Arbitrage Trading For Stocks as Underlying Assets
One of the basic principles upon which arbitrage trading is built is the fact that there may be certain times when the listed price of an asset in one market may lag behind the same asset’s price value in a different market. After a while, the lagging asset or market will catch up with the price listed in the other market. Where traders take advantage is by being able to identify these periods that the price lags occur in order to profit when the lagging asset inevitably catches up with its mate in the other market. This kind of arbitrage is popular with traders who deal in stocks and futures as their underlying assets, who can use the time lag factor to identify the asset’s impending price direction in order to place a Call or Put.
Arbitrage trading does not necessarily have to involve only the same type of asset in different markets; arbitrage trading can also take advantage of correlated securities such as some commodities and currencies. A good example is the inverse correlation that exists between the value of the US Dollar and prices of crude oil. For this reason, a rise in the price of crude oil would cause the value of most currencies that are paired against the USD, such as the EUR/USD pair.
In a similar way, the value of a pairing like the USD/CAD would fall as oil prices rise. This is because of the inverse relation of the USD to oil prices as indicated above and the direct relation of the CAD and crude prices. The lag between the price of crude oil rising and the changes in the value of currency pairs can be used by a trader to place an arbitrage trade on the pairing of commodity and currency. This is commonly referred to as Commodity Forex arbitrage.
It is important for a trader to note that opportunities to perform arbitrage trades in binary options exist all the time – it is simply up to a trader to identify the opportunity and have a strategy to make the most out of it. With advances in communications technology and integration of systems in different markets, the lag in valuation has become an occurrence that may last mere minutes. Due to this, the speed with which an arbitrage trade can be executed is of the essence.