There are many strategies which can be used when trading binary options by both experienced and novice investors, and the pair trading strategy is one that is commonly chosen. This is a technique which is adopted by traders when they wish to reduce the risk involved with trading. Advanced traders frequently use this innovative way to cut the risks that the encounter in entering a trade, however many traders also attest that pair trading is an excellent way to maximise profits while managing investments wisely.
What is Pair Trading and How Does it Work?
The name “Pair Trading” comes from the mechanics of this strategy. Binary options trading is done in pairs, with non-simultaneous or simultaneous trades in opposite directions being made. Trades can either be made on different assets, or on the same one depending on the type. It is possible to compare the pair trading strategy to the straddle effect, however pair trading does not always have to be done using the same asset and therefore it becomes a strategy in its own right.
There are 3 benefits to using this strategy. It can be used to protect profit, to potentially make double the income, and to minimise the trader’s level of risk. There are several kinds of assets that can be applied to the pair trading strategy, including Forex currencies, stocks and commodities. Trades can either be made with just one asset or alternatively with two competing assets. There are also two approaches to the pair trading strategy depending on the type of asset being traded – competitive pair and single asset pair trading.
Single asset pair trading involves placing both a put and a call option onto a single asset at different times, and competitive pair trading involves purchasing a put and a call option on 2 competing companies. Although both strategies are simple to grasp, even for novices, they do require some thorough research to be carried out, and this is especially true for competitive pair trading.
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How Does Single Asset and Competitive Pair Trading Work in Binary Options Trading?
It is possible to apply single asset pair trading to any kind of asset, however it is most popular on forex and on commodities. Single asset pairs are executed at different times however they will have the same expiry date, creating a barrier that minimises loss and potentially doubles income. The total investment amount and the expiry date have to be identical in each case in order for this strategy to work.
Another term for competitive pair trading is CRVT or Competitive Relative Value Trade strategy. Developed to take advantage of price movements of 2 companies operating within the same sector and in competition with each other, this strategy involves companies such as Shell and Exxon or Apple and Samsung. Research is important in this type of trade as adequate information is necessary to make informed trading choices. This is also a fairly high risk strategy and if the market is volatile, a trade can make unpredictable turns. A good knowledge of the stock market is necessary to increase the chance of the competitive pair trading strategy working in the trader’s favour, as being aware of which companies are likely to benefit from the misfortunes of another is key to placing the right type of option.
By adopting either the single asset or competitive pair trading strategy, it is possible for a trader to enjoy better success in their trading ventures and to maximise their gains while limiting the risks that they are exposed to in the financial markets.
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- Efficiency tests of the foreign currency options market. Bodurtha, J.N. and Courtadon, G.R., 1986. The Journal of Finance, 41(1), pp.151-162.
- Currency hedging and goods trade. Wei, S.J., 1999. European Economic Review, 43(7), pp.1371-1394.