Knowing where your target should be is one of the more challenging aspects of trading. Targets too small may lead to lesser profits, but wider targets may not be realistic. This may be especially true when it comes to binary options trading. With the nature of these options, you may pick the correct market direction, but the strike you choose can make the difference between trade profitability and loss.
Many traders find Fibonacci extensions a useful tool for selecting targets. These are based on the traditional Fibonacci sequence of numbers, but rather than being used to retrace a prior range as with Fibonacci reversals, Fibonacci extensions are used from the range’s high to low to project beyond the current range.
The five-minute bar chart below shows copper futures since yesterday. The Fibonacci extension was selected from the low to the high of yesterday’s range (represented by the black lines on the chart). Then, above the high price yesterday, in red, we see the Fibonacci extensions overlying today’s trade.
Once copper futures broke the prior day’s high, this market continued higher, making an extension move of 78.6 before topping out and traveling back to the prior high. The binary table below, which lists out-of-the-money options, shows that many of the option strikes on the table have a close correlation to several of these Fib extensions. This means that traders who wish to use Fib extensions as a target will likely find a suitable binary option to facilitate their trade.
Please keep in mind that these binary options have a base worth of $100 per contract. When buying these options, you want price to settle above the strike, and the risk is the amount paid, while the potential reward would be the difference between the risk and the $100 payout. When selling these options, you want price to settle at or below the strike, and then the potential profit would the amount for which the option is sold, while the risk would be the difference between the sale price and the $100 value.
It’s best to take time and look at several examples before trading with Fibonacci extensions. Below are some examples for educational purposes only, which are not intended as trading recommendations.
We will look at 38.2% and 23.6% extensions, followed by 50% and 61.8% extensions, and how to use these as targets with binary options.
Many traders believe that if a market breaks the prior day’s range, the 38.2% extension should be touched, which is at 2.643 on this chart. More conservative traders would target the 23.6% extension, which is at 2.638 on this chart.
On the table above, the binary option strike of 2.640 is right in between these two extension levels. Depending on whether a trader is looking at the 38.2% or the 23.6% as a target, this option strike could either be bought or sold. Traders using the 38.2% extension would look for copper to settle above the 2.640 strike and could buy the option for $39.25, which would be the amount risked to potentially earn $60.75. Traders looking for copper to close below the 2.640 strike, using the 23.6% extension, could sell this option now for $29.25, risking $70.75 to make $29.25; or alternatively, could wait for the option’s value to increase and sell it at a higher price.
More aggressive traders may look for an even stronger rally and target the higher extensions. The 2.650 strike is close to the 50.0% and 61.8% extensions. Traders looking for a close above 2.650 could buy this option for $22.00, risking that much to make $78.00 if the settlement is above the strike. Traders believing the market will not exceed this strike could sell this option now for $12.00, earning that amount on a settle below 2.650 while risking $88.00; or they could wait for the option value to change in order to sell this option at a higher price and risk less.
Fibonacci extensions are a widespread tool found on various charting platforms; and this articles outlines just a couple examples of how they may be used when traders are trying to decide on a target and binary strike.
Note: Exchange fees not included in calculations.