In the world of retail trading, one fact is commonly thrown around. More than 90% of traders end up losing their money within the first few months of trading. This holds true not just for forex traders but also for binary options traders.
Making profit with binary options is not an easy task as you need a winning strategy combined with strong money management.
Money management is an important aspect of trading that should not be taken lightly and is an essential part of your success as a binary options trader. Managing your capital to lower your risk is a key concept of trading that will determine your risk profile.
Capital management also helps traders preserve their trading funds for a longer period of time, thus giving the traders enough scope to trade more times to make profits or to recover their losses.
Most beginners in binary options focus on money management only at a later point in time. By then, they will have already lost a lot of money.
Managing your money right from your first deposit is the ideal way to slowly but surely build a good bankroll.
My first deposit
After you have made your first deposit with the binary options broker, you should already have a good tried and tested trading strategy. Without a trading plan, you can be sure to lose your first deposit amount rather quickly.
Always check the minimum amount you can trade a contract with. Some brokers allow you to trade for as little at $1, but generally, anything from $5 to $10, depending on your initial deposit amount, is fair. For example, if your first deposit was $250, then it is best to trade every contract with $5. This means you risk 2% of your trading capital.
After you determine the minimum trade amount, the next step is to look at the different binary options contracts and the instruments available. It is ideal to stick to the forex majors and some major commodity or stocks. Look to trade options that have a payout of 85% at least.
Note that some exotic options offer you higher payouts, such as 250% if not more. Do not fall prey to such contracts as they are highly difficult to trade, and you cannot make consistent profits trading such exotic binary options.
Money management strategy
While most traders focus on having a good trading strategy, following a strategy on money management is also equally essential. While there are many different techniques available for money management when trading forex, the choices are limited with binary options money management techniques.
But here are some ways you can apply some simple money management rules to trading binary options.
A very conservative approach is to stick with the bare minimum you are allowed to trade per contract. This could be $1 or even $5, regardless of whether you deposit $250 or $500. Traders should remember though that with a lower amount of investment per contract, your returns will also be lower.
If your binary options broker pays out 85% return, for every $100 invested, you can expect to make a profit of $85. Traders need to be on the top of their game to make consistent profits.
When you look at the above in terms of risk/reward, you can see that your risk/reward ratio is 1:0.85, although brokers prefer to call it an 85% payout because it sounds fancy.
The above example should make it clear by now that, with binary contracts, traders need to be very cautious. While it is easy to trade forex with a 1:2 or 1:3 risk/reward set up and even to recover from losses, with binary options, this is not possible as the risk and reward are fixed.
An 85% payout means traders should have a strategy in which they can win 2 out of 3 times to build their equity.
Strategy win rate
A second method is to look at the win rate of your trading strategy. If your trading strategy has a 70% win rate, you can expect to lose 30% of the time or 30 trades for every 100 trades you take. Therefore, your risk would be no more than 3% of your investment capital.
In some cases, this investment capital can be lower than what the broker requires as a minimum trade amount, and in such cases, it is best to stick with the minimum required.
How to recover losses
Recovering from a string of losses requires a change to both your trading techniques as well as your mental or psychological approach to trading. As a rule of thumb, traders should stop trading the moment they are down 25% on their trading capital and should focus on how to recover this money.
At this point, your focus should be on how not to lose any more money rather than on how to make more money. By increasing your risks (after you are down 25%), you will only end up emotionally trading, which could be disastrous for you.
To recover from the losses, try shifting your focus to longer-term expiring binary options trades. For example, when you see a bearish engulfing on the EUR/USD daily time frame, you know there is a high probability for the next day’s session to close bearish.
Thus, focusing on such high probability trades can give you better odds of recovering your lost money while preserving your trading capital as well.
You can also look at trading the very short-term binary options, such as 3 minute or 5 minute expiry times, ahead of some key economic releases, such as GDP or CPI, or unemployment rate data, which has the propensity to push the markets around.
Is martingale a good option?
The martingale approach of trading draws upon the betting system. The simplest strategy states a trader (gambler) should double his or her bets after every loss to recover the loss on the first trade.
This is definitely not the way to trade binary options as it requires a combination of skill, analytics and, of course, probability. The martingale method at best can give you a 50% chance but nothing beyond that.
Instead of focusing on doubling the trade when you lose, traders should focus more on scaling their trades when they are on a winning streak.
This can be done when the trader’s confidence is high and the winning trades continue to pour in. By increasing their invested amount, traders can look at increasing the profits they make per trade. For example, if you were trading with $5 per trade, then look to scaling it up to $10 per trade.
Increasing the trade size can be beneficial for traders to take advantage of the momentum in their trading style and the markets as well.
Money management is an essential part of trading that traders should realize right from the start. It might seem that by lowering your risk, you are limiting your potential to make profits, but the markets are often risky and volatile.
This could quickly eat away at your trading capital, and no matter how good one’s trading strategy is, it is risk management that ensures you have enough longevity to take more trades and to recover from your losses.