Fraud Mythbusters: Are All Binary Options Scams?

When you decide to invest money, whether it’s for retirement, your kids’ college education or just to ensure your financial security, there are plenty of options available. Some are low risk and some aren’t and your risk tolerance will determine where you put your money.

Addition Financial members often come to us to ask about investments and some that we believe deserve scrutiny are binary options scams. Binary options have some attractive features and not all of them are scams, but since many are, we’ve put together this guide to help you understand how they work and how to identify an investment scam when you encounter it.

What is a Binary Option?

Binary options trading offers investors an opportunity to earn money based on a yes or no proposition. In some ways, they may feel like gambling because if you buy the option, you’re doing so in the hopes that the answer will be “yes” and you’ll make some money.

One of the things that sets binary options apart from other types of money-making schemes is that the most they can be worth is $100 – and if they’re not worth $100, they’re worth $0. That’s the binary referred to in the name.

There is usually a small charge to buy or sell a binary option. If you buy an option for $50 and the binary option settles at yes, you’ll make your $50 back and earn an additional $50 minus the fee.

Binary options can have time frames that are hourly, daily or weekly. Day traders may buy hourly or daily options and may occasionally buy weekly binary options, often buying on Friday at the last minute.

Perhaps the most important thing to understand before you buy a binary option is that they exercise automatically. As a buyer, you have no option to buy or sell the underlying asset. When the clock runs out, you will earn $100 less your expenses or $0. There is no other outcome.

Where Can You Buy Binary Options?

Binary options are only available to buy or sell in authorized marketplaces. In the United States, there are two marketplaces to consider. The North American Derivatives Exchange, or Nadex for short, offers binary options based on:

The Dow 30
The Nasdaq 100
The S&P 500
The Russell 2000
Global indices for the United Kingdom, Japan and Germany
Binary Options Forex (foreign currency exchange)
Commodities such as copper, corn, crude oil, gold, silver, soybeans and natural gas

Nadex also offers the opportunity to buy binary options for events, such as unemployment rates rising or falling or the Federal Reserve raising or lowering interest rates.

The second and more limited option in the United States is the Chicago Board Options Exchange or CBOE. They offer two binary options, one based on the S&P 500 and the other based on the CBOE’s Volatility Index.

How Much Do Binary Options Cost?

Since the maximum value of a binary option is $100, they are always bought (and sold) for between $0 and $100. Higher prices automatically reduce the potential payout. For example, if you purchased a binary option for $55 and finished in the money, your maximum profit would be $45 less any market fees or commissions.

Prices can fluctuate but they are ultimately determined by traders. If you see a binary option selling for $10 or $15, it’s a good indication that most traders think that the “yes” outcome is unlikely. They’re willing to buy in for a small amount and take the risk of a big payout. When prices are high, the reverse is true. There’s a strong indication that the “no” option is unlikely and buyers are hoping for a small profit.

On the Nadex exchange, the fee for each binary option is $0.90 to buy and sell with a cap of $9. That means if you bought 15 binary options, the maximum fee would be capped at $9.

CBOE binary trades don’t have a set price because they are sold through various brokers, each of whom sets their own commission level. If you decide to buy binary options on the CBOE, you’ll need to ascertain the cost before deciding to buy.

What's a Common Binary Options Scam?

The Securities and Exchange Commission receives reports of binary options fraud and scams on a regular basis. Here are a few of the most common types of binary option scams:

Identity Theft. There have been reports of some online binary option scams that ask buyers to provide personal information such as copies of their driver’s license, credit card or passport. You do not need to prove your identity to buy a binary option.
Software and Trade Manipulation. Some unscrupulous “brokers” have sold binary options and then tinkered with their software to make sure that buyers finish out of the money. For example, they might artificially extend the expiration time of a binary, allowing it to close only when the buyer has lost.
Refusal to Pay. When you have money in a binary options account, you should be allowed to withdraw it at any time. One common scam is for the binary options trading platform to ignore withdrawal or reimbursement requests, cancel requests or just refuse to issue a credit to customer accounts.
Asking for a Bigger Deposit. There are stories about people making an initial deposit and then receiving a phone call or request from a scammer for a bigger deposit with the promise of a big payout. When they increase their deposit, the person absconds with their money.

The short answer to the question we posed in the title is that no, not all binary options are scams. However, some are and it’s important to know the warning signs.

How to Avoid a Binary Option Scam

If you decide that you want to try buying some binary options, here are some ways that you can identify potential scams and protect yourself.

First, research the online platform or broker before you buy. You can verify the information on the Investment Adviser Public Disclosure website. You can search an individual investment advisor's name or a company name. What we like about this option is that you’ll get information directly from the SEC’s database as well as from the Financial Industry Regulatory Authority (FINRA) BrokerCheck system. You should never deal with a binary options broker or firm that isn’t registered.

Second, never give out your personal information. No reputable platform or broker will request a copy of your driver’s license, passport or credit card. It’s a safe assumption that anybody who asks for this information intends to use it for some other purpose.

Third, be extremely wary of inflated profit claims. Given the nature of binary options, there will always be a limit on what you can earn. Remember that it’s an all-or-nothing proposition, so finishing out of the money means you lose what you spent. If you’re seeing claims promising a 50% return, it’s a sure sign that someone is trying to scam you.

Fourth, remember that Google is your friend. Taking a minute to Google the name of a platform or broker can tell you a lot. Keep an eye out for negative reviews and social media mentions and pay attention to them. When other people post about their bad experiences, they’re trying to help other innocent people from being duped.

Fifth, don’t ever buy a binary option from a foreign trader. Most are not licensed in the United States and are therefore operating illegally.

Finally, never spend more on a binary option than you can afford to lose. Don’t let anybody pressure you into buying more options or depositing additional funds.

It’s a good rule of thumb to be skeptical and wary when evaluating binary options to buy. Some people do earn money with them but you’ll need to be careful to research before you buy and protect your personal information.

Pros and Cons of Binary Options

Now that we’ve covered some of the most common binary options trading scams and how to avoid them, let’s review the pros and cons of binary options. While they get a bad reputation because of scammers, there are some advantages to buying them if you’re careful.

The pros of binary options include the following:

Losses are capped, so you’ll always know what the worst case scenario is.
The returns are better than average because of the binary structure.
The payout is known.

There are some significant cons associated with binary options as well:

Gains are capped. The limit to what you can earn will always be $100 minus your investment and fees.
Some binary options are volatile. The obvious example is binary options based on the CBOE Volatility Index, but the same goes for derivatives.
There are limited choices for binary options in the United States.

If you decide to buy binary options, make sure you understand them completely and that you’re doing everything you can to protect yourself and your money.

Not all binary options are scams but some are, and that means that you’ll need to take the time to research and understand them before you spend your money on any binary option. The tips and advice we’ve provided here will help you evaluate your options.

Are you looking for professional advice on how to invest and grow your money? Click here to learn about Addition Financial’s MEMBERS Financial Services Program.