When a relatively new financial instrument or derivative comes along, people arent always too quick to trust and accept it. Certainly, they can’t be blamed for being skeptical about a derivative like a binary option contract – one that promises a massive gain in a short period of time. Making matters worse is the fact that, since financial language can sometimes be quite confusing, the potential for predatory products to exist is definitely there (see Bernie Madoff as evidence).
Luckily, the concepts behind binary options and their mechanics are actually easy to understand. And once a person “has it”, so to speak, they’ll realize that binary options are a legitimate investment and not a scam.
The single most important indicator that binary options aren’t a scam is the way in which brokers make their money. On most brokerages’ FAQ pages, there is a clearly visible business model. Traders buy the options contracts from the brokers, if they win, the brokerage pays out about 70% or more. If the contract expires “out of the money”, the broker returns a small percentage of the principal. With wins and losses evening to a net zero (which is entirely possible on a long enough time line), the broker earns the percentage of total cash invested on losing trades that is the difference between the amount they keep on a losing trade and the amount they pay on a winning trade. For example, if broker X pays out 75% on a win and gives back 15% (or keeps 85% on a loss), they will have earned roughly 10% of total “losing” money invested with their firm assuming an equal number of wins and losses.
In a scam operation, earnings would instead depend on a constant cash inflow. In ponzi schemes, for instance, companies use the money given to them by new investors to pay off promised amounts to older investors. When the cash flow stops, all investors who entered too late are out their entire investment amount.
In addition to their business model, binary options brokers prove their legitimacy by allowing traders to invest in contracts based on underlying assets of their choice. To the trader, the process is seemingly entirely transparent. The agreement is understood, and they know what they stand to win if the asset finishes on their side of the strike price at expiry. With this check in place on every single contract sold, there is not much wiggle room for binary options brokers to cheat traders out of their money without being caught very quickly and posted on complaints boards.