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Understanding Nadex

5dmin January 10, 2020

Welcome to lesson 3 – Understanding Nadex.

This will be one of the longer sections as we start to cover binary options, call spreads, markets you can trade, risk, settlement, and more.

Let’s get started first with what a binary option is.

A binary option is a product available to trade with Nadex that will have a value between $0 & $100 with a simple yes or no decision being the deciding factor at expiration. At expiration the contract will reach either it’s full potential of $100 or $0

What we are talking about here with a yes or no decision is this question.

Will price be above or below (the strike you are trading) at expiration.

Let’s look at an example here:

In this screenshot what you are looking at is an example ticket for the US Tech 100 8344 Strike that expires at 12pm on Nov 20th 2019. <- This information you can see inside of the blue box. The main thing to focus on right now is the 8344 part, and we will get into the rest later. You can also see the current bid/ask (Nadex calls it offer, but offer = ask) with the size available at each price inside of the yellow box. Again these options are priced between $0 & $100, and the current market for this contract is 50.75×54.25.
-Ok so let’s address that yes or no question now. Will price be above or below 8344 at expiration?
The ‘Nadex Indicative Index’ or the price of the underlying is marked with the teal arrow. 8344.188
If you think or your analysis shows that price will be above that level, and you purchase this contract then at expiration it will be worth $100, and you will collect the difference between $100 and whatever you paid for it.
The same holds true to the downside as well.
If you think or your analysis shows that price will be below that level, and you sell this contract then at expiration it will be worth $0, and you will keep the $ amount that you sold the contract for.

In the next lesson we will be opening a Nadex account together, but before we do that I want to show you what it will look like, and answer some more questions. After we open the account we will be walking through how to place trades on the demo account together, so don’t try skipping ahead or you will just end up right back here to get those questions answered.

The screenshot below is what you will see when you first login to Nadex each day.

The first thing to look for here is whether the top banner of your platform is green or blue. If it is blue that means you are on a live account, and if it is green that will let you know that you are in the demo platform.
– In my screenshot you can see that I am logged into a live account.
– Next up on the left you will see all of the available markets you can trade – Indices, Forex & Commodities. This will also give you the standard ‘binaries’ and also the ‘call spreads’ for each of those.
– When you do select a market, and expiration time then it will populate over into the Markets tab. (blue circle)
– Below that is where your open positions will be once you have been filled into the market.
– And just under that will give you your Order History & any Working Orders you might have.

Ok let’s roll into
‘What markets are available to trade?’

I have put together a TOS watchlist that has all of the available markets on there, and I will share that TOS link when we get to lesson 5 ‘Thinkorswim w/Nadex’ but for now I do want to cover them, and I’m going to stick to the traditional binaries but the same markets will be available in the call spread drop down as well. There is 1 exception to this which we will get to.

The first drop down on the list is Indices Binaries, and you will see that drops down a list of all available indices.

I personally do not ever look at the China 50, FTSE 100, Germany 30, or the Japan 225.

The markets I focus on are going to be the main US markets.
US Tech 100 – Nasdaq (/NQ)
US 500 – S&P 500 (/ES)
US SmallCap 2000 – Russell (/RTY)
Wall St 30 – Dow Jones (/YM)

These are the symbols for those markets on Thinkorswim, and again I’ll share that watchlist here soon.

Then we have the Forex Binaries, and the 10 pairs available to trade can be found there.

Commodities such as Crude Oil (/CL), Gold (/GC), Natural Gas (/NG), & Silver (/SI)

The last traditional binaries on the list are ‘20 Minute Binaries’ & ‘5 Minute Binaries’ which you can see are only available on US indices, and 7 of the currency pairs. I personally don’t trade these either, but there is a strategy you can use for the 20 Minutes that will work depending on timing of the market, and if there is enough time left on the option to take a position.

Expirations

That is going to wrap up what markets are available to trade, and now we need to start looking at the expiration cycles available to us.

One thing a number of people assume about Binary Options is that you have to hold until expiration. This is simply not true. You can enter and exit positions prior to expiration, and another great benefit to Nadex is that there is no PDT rule. You can day trade using Nadex and are not required to have the $25,000 minimum like you are with traditional stocks & options.

I want to start first with the 20 Minute & 5 Minute Binaries because they are pretty self explanatory. You can see from the screenshot below that the 20 Minutes are available on the Indices listed, and in 4m 40s these options will expire, and a new series of 20 Minute Binaries will be made available. The easiest way to understand expiration is that when the timer runs out on that particular strike those options will either be $0 or $100. The same holds true for the 5 Minute Binaries in that after 4m 40s in this screenshot example whatever strikes inside of that expiration series will either be marked at $0 or $100

Note: Again I do not trade the 5 Minute Binaries, and there are only very specific times that the 20 Minute Binaries are applicable.

Next up we have the Indices which will have expirations every hour on a 2 hour cycle, EOD or 4:15pm expiration, and then also a Weekly strike.

The product with the most amount of expiration cycles available is Forex. With intraday hourly expirations on a 2 hour cycle, and then a running 3, 7, 11 expiration cycle with a Weekly also at the end. One thing you do want to be aware of with these though is that since ‘a’ comes before ‘p’ you will notice the Daily 11am expiration in this example has 21h : 29m until expiration, and the Daily 11pm (further down on the list) has 9h : 29m until expiration.

How is risk/reward calculated?

The first thing to understand when it comes to risk and Nadex is that it is defined. Also as I mentioned earlier there is no leverage involved so you can not lose more than what is in your account, or more than what you ‘invest’ into a single trade.

For example let’s say you buy a Binary on the US 500 for $50. In the screenshot below you can see that I have the 3106.80 strike for 12pm that expires the 22nd of November 2019. Inside of the green box you will see that I have ‘Buy’ checked and 1 contract listed for a price of $50. The blue arrows are pointing to the Max loss: $50.00 & the Max profit: $50.00 Again remember the contract has a Floor of $0 & a Ceiling of $100. Let’s take it 1 step further and say that you did execute this trade and bought 1 contract for $50 of the 3106.80 strike then what you would want at expiration is for the price of the Nadex Indicative Index to be over 3106.80 so that it can expire at max Ceiling price of $100.

     

Let’s flip it around though and look at the short side of things. What if you were to sell that exact same strike looking for the market to make a move below 3106.80. Only this time instead of the price being $50 we are going to sell it for $30.
In this example our Max profit: $30 & Max loss: $70

     

Binary Options Pricing

What causes 1 option to be more expensive or less than another? Price.

The best way to visualize this is by going to the closest strike to the Indicative Price, and we will start from there. In the screenshot below that is going to be the 8246 strike since the Indicative Price is 8247.165. You can see that the current bid/ask on this strike is 53.50×57.25

As we start to move further away from the current Indicative Price you will see the options get ‘cheaper’ as we move up above that 8247.165, and more ‘expensive’ as we move lower beneath that 8247.165.

There are multiple strikes to choose from, and depending upon the strategy you are using it is possible that you could be buying options for as little as a few dollars, and even selling them for $90 and above, or realistically anywhere in between. That is another 1 of the many benefits of Nadex is the wide array of opportunities and potential strategies that they open up.

Commissions

This is 1 area where Nadex made is super simple.

It is $1 to enter or exit your position per contract prior to expiration.

If your trade expires at max profit $100 (in the money) then it is $1 per contract.

If your trade expires at max loss $0 (out of the money) then there is no settlement fee.

Bid/Ask

There are really only 2 things left to understand when it comes to Nadex. Bid/Ask or the spread as you will hear it called, and how the settlement works.

To define Bid/Ask simply is just what the market is willing to buy that contract for (bid) & what the market is willing to sell that contract for (ask).
If you are looking to go long a specific contract then you will be buying from the right column or the ask column.
If you are looking to go short a specific contract then you will be selling from the left column or the bid column.
The size that is next to each of the bid/offers is just how many are available at that specific price or the ‘depth’ of that market.

Settlement

Nadex has a really good write up on this so I am going to pull directly from their website, and I’ll put a link below so you can read the whole thing if you would like.

“Nadex binary options and spreads are types of options. They have an expiration date and time, when trading ceases and we calculate the expiration value. That’s how we determine who gets the payout and, in the case of spreads, how much.
Nadex employs several safeguards to facilitate fair and accurate settlement calculations. These safeguards are meant to mitigate against the potential for manipulation.
Nadex offers many products based on liquid & active underlying markets.
Nadex bases our settlement calculation on an average of a range of prices, as disclosed below.”

“Normal markets:
For stock index and commodity futures, if it takes more than ten seconds to collect 25 or more trades in the data set, Nadex uses the following process to calculate the expiration value:
Take the last 25 trade prices in the underlying market
Remove the highest and lowest five prices, leaving the middle 15
Average the remaining 15 prices and round to one decimal point past the precision of the underlying market. (For the Wall Street 30 we round to the same precision as the underlying.)”
^ This is why you will see settlement prices that are different than the actual tick values of say the ES futures for example. Let’s look at the screenshot below, and you will see the ‘Index Value’ or settlement for this US 500 contract is 3016.917. I was long 1 contract on this trade, and price closed above my strike of 3014.20 so my total Payout was $100.

Currency Settlement Value:

“Unlike futures, which are traded on a central exchange, currencies are traded on a global network. Therefore the settlement calculation is different, but the goal is the same: to get an accurate picture of the market and determine fairly which trades should profit. Nadex uses a proprietary forex data feed, based on a compilation of data from several major global banks, to ensure accuracy.
Nadex uses different calculation procedures for normal and highly active markets, to provide a better representation of the underlying market.
Normal markets:
If it takes more than ten seconds to collect 10 or more midpoints in the data set, Nadex calculates the expiration values for spot FX as follows:
Take the last 10 midpoints (10 pips wide or less) in the underlying market, before expiration
Remove the highest 3 prices and lowest 3 prices.
Take the arithmetic average of the remaining 4 prices and round to one decimal point past the precision of the underlying market
Nadex obtains its underlying market data from a proprietary forex data feed based on data from major banks.”

If you want to read more of how the settlement is calculated for highly active markets, economic events or spreads then click this link. – Nadex Settlement

That is going to wrap it up for this lesson, and we covered a ton of information so I highly suggest going back through this at least once so you fully understand it, and be sure to leave a comment below. 🙂

See ya on the next lesson for setting up your Nadex account.

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