What Are Digital Options?

Digital options have grown in popularity over the past few years, as the allure of high returns and simple mechanics appeals to both experienced investors and beginners.

Similarly to binary options, these financial derivatives allow you to speculate on the price movements of different assets, but digital options do have a few distinguishing characteristics, which we will cover further below.

What they do have in common, however, are high levels of risk, so it's essential that you understand how these options work and how to manage this risk effectively before you opt to put your hard-earned money on the line.

How Digital Options Work

A digital option is binary in nature, as it is based on you predicting if the price of the asset you choose to trade on will rise above (call option) or fall below (put option) a strike price within a set timeframe.

If your prediction is correct, you will earn a fixed payout, but if you are incorrect, you lose your entire investment. These trades usually have a short timeframe, from 60 seconds to 15 minutes or longer. What makes them unique is that the payout you receive in case of a correct prediction depends on the distance of your set strike price from the current market price and the market’s volatility.

Digital options therefore offer you a chance to leverage price movements for higher profits with smaller initial investments. This is what makes them unique when compared to standard binary options, which require more investment in order to get bigger profits.

Traders usually analyze their chosen asset and its price movements through fundamental and technical analysis before placing a call or put option. When the trade becomes active, they monitor price fluctuations, with some brokers allowing for early exits and locking of profits to minimize losses and avoid reversals.

Brokers use mathematical models like Black-Scholes Merton to determine premiums and payouts, with multiple features being factored in, such as volatility, implied volatility, time of expiry, and interest rates.

Types of Digital Options

Digital options come in various forms to suit different trading strategies and market conditions.

Up/Down Options

Also known as High/Low options, these are the most common and simplest type of all, ideal for beginners as the focus here is purely on the direction of the price movement of an asset, and whether it will end above or below a specified strike price by the time of expiry.

One-Touch Options

These trades are riskier and are more suitable for markets where prices experience higher levels of volatility. To get a payout with one-touch options, the price of your chosen asset has to touch a specific level at least once before the option expires, and a single touch of the targeted price within the set timeframe is enough to secure the payout.

No-Touch Options

The complete opposite of one-touch options, this type will pay out if the price doesn’t reach a predefined level during the option’s duration, making them more suitable for stable markets where you do not expect much price movement.

For example, if you predict that the price of crude oil, currently at $60, won’t touch $65 in the next hour and the price stays below that threshold, you earn a payout.

Ladder Options

A much more complex choice, ladder options involve multiple strike prices or rungs and will pay out at each level your asset’s price reaches, with the amount of payout depending on how far the price moves up or down the ladder. This offers much more opportunity for incremental profits with higher levels of risk.

Range Options

Also known as boundary options, these options require you to predict if the price of an asset will stay within a range or break out of it during a set trade period. For in-range options, the payout will occur if the price stays within that defined range, while out-range options pay out if the price breaks out of the range.

Pros and Cons of Digital Options

Below are some of the main advantages and disadvantages of this option type.

Digital Options vs. Binary Options

As mentioned briefly at the beginning of this article, digital and binary options are extremely similar and are often regarded as the same thing. However, there are a few important differences between them.

First and foremost, digital options allow you to manually set strike prices, adding a level of control and customization in terms of risk and rewards that is missing with binary options trading platforms.

This ability to leverage price movements allows for much higher profits, making digital options more suitable for experienced traders, while binary options, with their simplified fixed payouts and strike prices, suit beginners more.

Binary options also don’t allow you to close trades early, making digital options better in terms of the ability to mitigate losses.

Bottom Line

As you can see, digital options can be a compelling choice for traders who are able to employ complex trading strategies and leverage to potentially earn significant profits.

However, the high-risk nature and the binary outcome of these options require a much more disciplined approach than other forms of trading, which is why we’d recommend it only to experienced traders with a high understanding of the market and its principles.