Binary options and cryptocurrency – as a forbidden fruit

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Arbitrage Strategies With Binary Options

Arbitrage is the simultaneous buying and selling of the same security in two different markets with an aim to profit from the price differential. Owing to their unique payoff structure, binary options have gained huge popularity among the traders. We look at the arbitrage opportunities in binary options trading.

A Quick Intro To Arbitrage

Suppose a stock is listed on both the NYSE and NASDAQ stock exchanges. A trader observes that the current price of the stock on the NYSE is $10.1 and that on the NASDAQ it is $10.2. She purchases 10,000 of the lower-priced shares (on the NYSE), costing $101,000 and simultaneously sells the same quantity of 10,000 higher-priced shares, costing $102,000. She manages to pocket the difference (102,000-101,000 = $1000) as profit (assuming there is no brokerage commission).

Effectively, arbitrage is risk-free profit. At the end of the two transactions (if executed successfully), the trader is not holding any stock position (so she is risk-free), yet she has made a profit.

Options Arbitrage

Options trading involves high variations in prices, which offers good arbitrage opportunities. While stocks may need two different markets (exchanges) for arbitrage, option combinations allow arbitrage opportunities on the same exchange. For example, combining a long put and a long futures position results in the creation of a synthetic call, which can be arbitraged against a real call option on the same exchange. Effectively, assets with similar payoffs are arbitraged against each other.

Additionally, other variations in arbitrage exist. A long position in a stock can be arbitraged against a short position in stock futures. Arbitrage opportunities can also be explored between correlated commodities and currencies (examples follow).

Binary Options

While the plain vanilla call and put options offer a linear payoff, binary options are a special category of options that offer “all-or-nothing” or “fixed price” payoffs.

Here is the graphical representation of the difference in payoffs between the two:

The linear (and varying) payoff from plain vanilla options allows for combinations of different options, futures, and stock positions to be arbitraged against each other (and a trader can benefit from the price differentials). The fixed payoff of binary options limits the combination possibilities.

The key idea of arbitrage is simultaneously buying and selling assets of similar profile (synthetic or real) to profit from the price difference. One of the biggest challenge with binary options is that there are hardly any assets that have a similar payoff profile. Trying combinations involving different assets to replicate the binary option payoff function is a cumbersome task. It involves taking multiple positions—something that is very difficult for timely trade execution and costs high brokerage commissions.

Arbitrage Opportunities in Binary Options Trading:

Within the above-mentioned constraints, the arbitrage opportunities in binary option trading are limited. Finding similar assets to simultaneously arbitrage against is difficult. The best available option is to go for time-based arbitrage. It involves identifying a market discrepancy, taking a position accordingly, and then booking the profits after some time when that discrepancy gets eliminated or the price target/stop-losses are hit.

NADEX is the popular exchange for trading binary options. Keep in mind that other markets for stocks, indices, futures, options, or commodities have different (and limited) trading hours. Multiple assets (stocks, futures, options) trade at different times of the day depending upon the exchange-enabled trading hours. Developments that happen when a market is closed may lead to rapid moves in prices when the market opens.

For example, there may be a news item that affects the FTSE 100 stock index and comes out when the London Stock Exchange (LSE) is closed. The exact impact of such news on the FTSE 100 index will be visible only when the LSE opens and the FTSE starts updating. Until then, speculations will be high about the perceived impact of the news on the FTSE’s value.

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This index is the benchmark for trading binary options on NADEX. Since binary options trading is available for extended hours, a lot of volatility and price moves as a result of the news may be visible in FTSE binary options.

Suppose the LSE is currently closed and there are no updates to the FTSE index (last closing value was 7000). Assume last price for binary option “FTSE > 7100” was $30. As a result of the developing news, the FTSE is expected to rise once the market opens (say five hours from now), and this binary option value will start to rise (and fluctuate) from the current price of $30 to $50, $60, $70 and so on. Since there is no certainty about what will be the exact FTSE value when it will open for trading, the binary option prices will fluctuate up and down. During this time, experienced traders can bet their money on FTSE binary options for time-based arbitrage.

Once the market opens, the actual change in the FTSE Index values and FTSE futures prices will be visible. That will lead to FTSE 100 binary options prices to move towards accurately reflecting FTSE 100 values. By that time, experienced traders could have spotted overbought and oversold conditions in the binary options market and made profits (possibly couple of times).

Other binary option arbitrage opportunities come from correlated assets, such as the impact of commodity price changes that lead to currency price changes. Usually, gold and oil have an inverse correlation with the US dollar (i.e., if gold or oil prices rise, then USD currency weakens and vice versa). Experienced traders can look for arbitrage opportunities in associated forex binary options in such scenarios.

For example, a trader observes that gold prices are rising. He can short sell US dollar by selling the USD/JPY pair or by buying EUR/USD pair. Similarly, an increase in oil prices can lead to an expected increase in the price of EUR/USD. A binary options trader can take appropriate positions to benefit from these changes in asset prices.

Arbitrage in other binary options, such as “non-farm payroll binary options”, is difficult because such an underlying is not correlated to anything. One can still attempt time-based arbitrage, but this would be solely on speculation (e.g. take a position as the expiry approaches and attempt to benefit from volatility).

Binary Options: Better for Arbitrage?

High volatility is a friend of arbitrageurs. Binary options offer “all-or-nothing” or “fixed price” profit ($100) and loss ($0). Like plain vanilla options, there is no variability (or linearity) in returns and risks. Buying a binary option at $40 will result in either a $60 profit (final payoff – buy price = $100 – $40 = $60) or a $40 loss. Any impact of news/earnings/other market developments will lead the price to fluctuate (from $40 to $50, $80, $10, $15, and so on).

Arbitrageurs usually don’t wait for binary options to expire. They book the partial profits or cut their losses before. Since binary options have fixed price flat payoffs, any change in the underlying value can have a big impact on returns.

For example, if the FTSE closed at 7000, and the binary option FTSE>7100 was trading at $30, and then positive news about the FTSE comes out. The FTSE reaches 7095 and is hovering around that level in a 10-point range (7095-7105). The binary option price will show huge variations, as just a one-point difference in the FTSE can make or break the win-loss payout for a trader. If the FTSE ends at 7099, the buyer losses the premium he paid ($30). If the FTSE ends at 7100, he receives a profit of ($100-$30 = $70). This -$30 to +$70 is a huge variation based on a one point limit of the underlying (7099 to 7100), and that leads to very high volatility for binary option valuations, creating huge price swings for active binary option traders to capitalize upon.

The Bottom Line

Standard arbitrage (simultaneous buying and selling of similar security across two markets) may not be available to binary options traders due to a lack of similar assets trading across multiple markets. Arbitrage opportunities in binary options are to be picked from those available during off-market hours in associated markets or correlated assets. The unique “all-or-nothing” payoff structure of binary options allow for time-based arbitrage opportunities. High variations enable high profit potentials, but also bring in large potential for losses. Due to its high-risk, high-return nature, binary options trading is advisable for experienced traders only.

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Market News

Facebook is banning the ads of cryptocurrencies, including bitcoin, initial coin offerings (ICOs) and binary options across its network and partnering sites, said the company in a blog post.

According to the new company policy, “ads that promote financial products and services that are frequently associated with misleading or deceptive promotional practices, such as binary options, initial coin offerings and cryptocurrency“ are prohibited. The ban will apply to all platforms of the company, including Facebook, Audience Network that places ads on third party apps, and Instagram.

Rob Leathern, Product Management Director at Facebook noted that there are a lot of companies that are not acting “in good faith”, who are promoting ICOs, cryptocurrencies and binary options. “Misleading or deceptive ads have no place on Facebook”, he said in the blog post.

According to the publication, the new Facebook policy is intentionally broad, while the company works to better detect deceptive and misleading advertising practices. Eventually, after improvement of the detection practices, the policy will be revisited. Furthermore, Facebook urges its users to report content that violates its advertising policies.

Until now Facebook was a breeding ground for misleading advertising of fraudulent financial products, mostly binary options and scam trading robots, but with the increasing popularity of cryptocurrencies, scams associated with them have also started appearing.

It is interesting to see whether the new policies will also apply to pages promoting fraudulent financial products (a fine example are the numerous pages associated with the OneCoin MLM Ponzi scheme, which is currently under criminal investigations in numerous countries), or just to ads.

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The History of the “Forbidden” Fruit

PUBLISHED July 22, 2020

No fruit pops up so frequently in Western art, literature, and everyday speech as the apple.

An apple (cunningly labeled “to the fairest”) started the Trojan War. (Odysseus, later struggling to get home from it, yearns for the garden he had as a child, populated by apple trees.) The Norse gods owed their immortality to apples. The Arabian Nights features a magic apple from Samarkand capable of curing all human diseases—predating the belief that an apple a day will keep the doctor away, a proverb that first appeared in print in 1866. Robert Frost, Emily Dickinson, Christina Rossetti, and Dylan Thomas all wrote poems about apples; and everyone from Caravaggio to Magritte painted them.

One place where the ubiquitous apple does not appear is in the Old Testament’s Book of Genesis. The original story of Adam, Eve, the snake, and the forbidden Tree of the Knowledge of Good and Evil mentions only an unspecified “fruit,” thus opening up centuries of debate over what the hapless First Couple actually ate. Various suggestions include everything from figs, grapes, and citrons to olives, apricots, bananas, pomegranates, and grapefruit. (Similar disagreements rage over probable locations of the Garden of Eden, which range from Turkey to Ohio, Mongolia, and the North Pole.)

The apple as Forbidden Fruit seems to have appeared in western Europe at least by the 12th century. Some researchers suggest that the apple got a bad rap from an unfortunate pun: the Latin malus means both “apple” and “evil,” which may have given early Christians ideas. A 1504 engraving by Albrecht Durer shows Adam and Eve with apples; and 16th-century paintings by Lucas Cranach and Titian show Adam and Eve under particularly tempting apple trees. Though Michelangelo’s Temptation and Fall on the Sistine Ceiling features forbidden figs, apples, increasingly, were held responsible for the Fall. By the 17th century, when Milton wrote Paradise Lost, the forbidden fruit was an Apple with a capital A.

Apples: Sour Enough to ‘Make a Jay Scream’

Apples, taxonomically, are members of Rosaceae, the Rose family, along with such other yummy edibles as pears, plums, peaches, cherries, strawberries, and raspberries. DNA analysis indicates that apples originated in the mountains of Kazakhstan, where the wild Malus sieversii—the many-times great-grandparent of Malus domestica, the modern domesticated apple—still flourishes.

There’s a lot to be said for domestication. Though Henry David Thoreau insisted that he much preferred the wild apple (“of spirited flavor”) to the civilized versions found in Massachusetts orchards, even he admitted that the occasional spirited bite was “sour enough to set a squirrel’s teeth on edge and make a jay scream.” The truth is that wild apples – grown from seeds—are generally pretty awful.

Apples are a victim of their own genetic creativity, a characteristic known to botanists as extreme heterozygosity. This ensures that an apple grown from seed won’t be anything like its parents. This is great for evolution, producing thousands of diverse apple varieties, adapted to every environment from North Dakota to New Zealand. For apple growers, though, intent on preserving selected favorites, the apple’s slippery genome is frustrating. In apples, the only guarantee of reproducibility is grafting, which is how our modern eating apples are propagated.

Johnny Appleseed, Spreading Booze Throughout America

But not by Johnny Appleseed. John Chapman of Leominster, Massachusetts—a.k.a. the apple-toting, tin-pot-hatted folk hero—condemned grafting as wicked, insisting that the only road to a good apple was seeds. Chapman collected seeds by the bushel from Pennsylvania cider mills and ferried them west, where he established apple nurseries in Ohio, Indiana, and Illinois, and distributed wildly random seedlings to settlers far and wide. The mouth-puckering results almost certainly went primarily into cider and applejack. These weren’t great eating apples. What Johnny Appleseed was disseminating was booze. Eventually this backfired, as temperance activists fingered the apple as a source of alcoholic sin and demanded that the morally upright burn their apple trees.

Recently the apple as forbidden fruit has been back in the news. Joe Davis, bio-artist attached to geneticist George Church’s lab at Harvard Medical School, is preparing to create an apple tree that is—literally—a Tree of Knowledge. Davis’s project aims to incorporate Wikipedia into the apple genome. For this purpose, he plans to use the world’s oldest known apple, a 4000-year-old variety of M. sieversii.

This isn’t as far-fetched as it sounds. Church and a number of other researchers have proposed that DNA may be the data storage venue of the future. A single droplet of DNA is capable of storing 700 terabytes of data – that’s the equivalent of 14,000 50-gigabyte Blu-Ray discs—and it’s impressively stable. Unlike magnetic tape that needs to be replaced every five years or so, DNA can survive for thousands. The trick is to convert data into binary code based on A, G, C, and T – the four nucleotide bases that make up DNA – and use the result as a blueprint to synthesize a DNA sequence. Davis plans to insert his Wikipedia-coded DNA into a bacterium capable of transferring its genome into an apple cell. This won’t change the taste, smell, or appearance of the apple, but each treated fruit will carry, hidden among its genes, a chunk of extra info—say, the Wikipedia entry on apple trees, snakes, Genesis, or applesauce.

Apples: The Fruit of Knowledge

All of Wikipedia can’t fit into one handy apple. Each tiny bacterial carrier can only cope with a few thousand words—which means the whole of Wikipedia, some two and a half billion words long, may require an entire forest of apple trees. (One critic guesses 666,000 trees.) And eating such an apple, sadly, won’t make any of us more knowledgeable. Retrieving the info from apple DNA will require a DNA sequencer and some decoding software. On the other hand, this may be just as well. Most M. sieversii varieties are what apple growers refer to as “spitters”—because the common response to the first mouthful is to spit it out, fast.

The 50-acre orchard at USDA’s Plant Genetics Resources Unit in Geneva, New York, has what may be the world’s largest collection of apple trees—some 2500 different varieties from all over the world. Among the latest additions are varieties of M. sieversii, the apple’s ancient ancestor from Asia, laden with beneficial genes not found in our modern and monotonous apple crop. Whereas a century ago, Americans grew thousands of varieties of apples, nowadays we’re down to just a handful, among them McIntosh, Jonathan, and Red Delicious—which last, a lot of people argue, may be red, but it isn’t exactly delicious. Genetic uniformity in crops seldom pays off, and the American apple—attacked by pests on all sides—now needs a battery of chemicals in order to survive. Ancestral genes may give our apples the resistance and versatility they need—to say nothing of a new battery of flavors, colors, and shapes that we’ve forgotten apples ever had.

When it comes to information, M. sieversii doesn’t need Wikipedia.

Luckily for us, it already has plenty.

This story is part of National Geographic’s special eight-month Future of Food series.

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