The use of options in areas of trading such as the stock market or the commodities exchange has been around for a long time now. Forex options were initiated in order to help large financial institutions hedge the high level of exposure present in currency markets. Read more in this ava fx review.Over time, a much larger number of individuals and mid-level Forex players have joined the game. This has been made possible due to the advances in platforms, real time trading and technology. Because options in Forex trading is a relatively new entrant, many people do not understand it very well.
Here is what you should know about options in Forex markets:
What are Forex Options?
Forex markets are extremely risky and those who have tried it are know that while there are large profits to be gained, there is also a huge risk of losing. . Forex options allow the trader to define the level of risk that he or she can take. In this case the one who owns the asset can decide whether or not he wants to convert the currency into another currency at a specific rate on a specific date. But this exchange is not mandatory. The value of the deal is based on the underlying assets.
Different Types of Forex Options
There are essentially two types of Forex options that one can choose.
- Traditional Forex Options
These involve the call and put options similar to the way the stock market works. One needs to specifically notify the currency pair in order to place an order. Therefore the EUR/USD pair is notified by EUR call / USD put. These transactions are carried out simultaneously over the counter. While placing the order the trader needs to decide the price of the trade and the date on which the transaction should take place. There are two kinds of traditional Forex options too. The American style option can be exercised at any time before the expiration date of the trade; the European style Forex option needs to be exercised only on the date of the expiration.
- Single Payment Forex Options
In this kind of Forex option trading a specific scenario is provided to the broker. The trader predicts something with regards to a currency pair. For example, the EUR/USD will break a certain level within the next 30 days. If the prediction comes true, the payout is made. On the other hand, if this does not happen the trader needs to pay back the premium that was paid for the option.
Volatility is one of the most important aspects to consider when trading in Forex options. A higher volatility ensures that the Forex option will expire in the money. It increases the risk to the Forex option seller. This leads to the demand of a higher premium. Therefore a high volatile market leads to an increase in both call and put Forex options.