Updated: 04/06/2024

Mastering MACD Trend Following Strategy for Binary Options

binary options fundamentals
.22 Feb 2024
author avatar image Chad Smith

Table of Contents

Navigating the financial markets can, at times, seem like navigating an uncharted wilderness filled with uncertainty and hidden pitfalls. However, for those equipped with the right techniques and strategies, it can become a path towards financial growth and success. This piece will illuminate one such strategy, focusing primarily on Binary Options – a versatile and potentially lucrative investment vehicle. It will delve into the fundamental knowledge necessary to understand and effectively trade using Binary Options. Equally important, it will detail the Moving Average Convergence-Divergence (MACD) indicator, a powerful tool often employed in trend following strategies in financial trading. Further, it will elucidate on the application of MACD in Binary Options and illustrate how you can formulate a successful trend following strategy.

Understanding Binary Options

Understanding Binary Options

Binary options are financial derivatives that enable traders to speculate on the future direction of the underlying asset’s price movement. When trading binary options, you’re predicting whether the price of a certain asset will rise or fall within a specific time period. Unlike other types of trading, in binary options, the potential risk and reward are known beforehand, which allows you to actively manage and limit your risk.

How Do Binary Options Work?

Binary options work on a basic yes or no proposition: Will an underlying asset be above a certain price at a certain time? Traders place trades based on whether they believe the answer is yes or no, making it one of the simplest financial assets to trade. If your prediction is correct, you will receive a predetermined payout. If your prediction is incorrect, you will lose the amount you invested in the trade.

Binary Options Terminology

In order to effectively trade binary options, it’s important to understand some related terminologies. These include the strike price, the expiry time, and in-the-money or out-of-money trades.

The ‘Strike Price’ is the price at which a trader predicts the asset will reach within the selected expiry period.

The ‘Expiry Time’ is the period between the time of purchase and the time when the option is settled.

An option ends ‘In-The-Money’ if the trader has correctly predicted the direction of price movement and ‘Out-of-The-Money’ if the trader has incorrectly predicted the direction of price movement.

Types of Binary Options

There are several types of binary options that traders can choose from. These include high/low options, one-touch options, no-touch options, and ladder options.

  • High/Low Binary Options – A prediction is made on whether the market price will be higher or lower than the current price at the expiry time.
  • One-Touch Binary Options – Here, you predict whether the price will touch a certain value before the option expires.
  • No-Touch Binary Options – This is the opposite of the one-touch binary options. You predict that the price won’t reach a certain value.
  • Ladder Binary Options – In this type of options, a trader can choose multiple price levels that the price must reach within a specific time period.

Risk and Reward in Binary Options Trading

Risk and reward in binary options trading are known from the outset. The risk is limited to the amount invested in the trade. The reward, on the other hand, is usually a fixed percentage of the investment if the trade finishes in-the-money. This simplicity in risk and reward makes binary options attractive to some traders, with the potential reward often being substantially higher than the potential risk.

Image depicting binary options trading with numbers 0 and 1 symbolizing yes and no

MACD Basics

Understanding the MACD Indicator

The Moving Average Convergence Divergence, often abbreviated as MACD, is a potent indicator utilised in technical analysis of price trends and patterns across numerous markets, including binary options. It helps identify potential buy and sell signals, making it critical to comprehend and efficiently exploit for investment purposes.

Interpreting the MACD Indicator

The interpretation of the MACD Indicator is straightforward. When the MACD line crosses above the signal line, this is a bullish signal, and it suggests that it may be an appropriate time to buy. Conversely, when the MACD line crosses beneath the signal line, it is a bearish signal, indicating it might be a suitable time to sell.

The MACD Histogram

Another key component to understand is the MACD histogram. The histogram illustrates the difference between the MACD line and the signal line. If the MACD line is above the signal line, the histogram will be positive. If the MACD line is below the signal line, the histogram will be negative. Consequently, the MACD histogram helps traders visually perceive when the MACD line crosses above or below the signal line.

Calculating the MACD Indicator

To calculate the MACD, the following steps are followed:

  1. Start by calculating the 12-day EMA and the 26-day EMA for the security.
  2. Calculate the MACD line by subtracting the 26-day EMA from the 12-day EMA.
  3. Then compute the 9-day EMA of the MACD line, which serves as the signal line.
  4. Lastly, subtract the signal line from the MACD line to derive the MACD histogram.

In conclusion, understanding and interpreting the MACD line, signal line, and histogram can greatly assist in trend following strategy for binary options providing accurate buy and sell signals that can improve trading performance.

A visual representation of the MACD Indicator, showing the MACD line, signal line, and histogram.

Implementing MACD in Binary Options

Understanding MACD in Binary Options

MACD, an acronym for Moving Average Convergence Divergence, is an advanced indicator used in technical analysis of binary options, stocks, and forex markets. It is a trend-following, momentum indicator that demonstrates the relationship between two moving averages of an instrument’s price.

Setting Up the MACD Indicator

To utilise the MACD trend following strategy for binary options, you need to properly set up the MACD indicator. It consists of two main parts – the MACD line and the signal line. The MACD line is the difference between a 26-period and 12-period exponential moving average (EMA). The signal line is a 9-period EMA of the MACD line. The MACD histogram represents the difference between the MACD line and the signal line.

Identifying Trends with MACD

The function of MACD in identifying trends is pivotal. MACD trend following strategy is based on the premise that one can identify the start of the trend by observing the zero line crossover. When the MACD line crosses above the signal line, it generates a bullish signal, indicating that it might be an ideal time to buy. On the other hand, when the MACD line crosses below the signal line, it’s considered a bearish signal, implying that it may be a suitable time to sell.

Triggering Trades with MACD

The decision regarding when to make a trade is perhaps the most critical aspect in binary options trading. MACD can be used to trigger trades using the crossover strategy. When a bullish crossover occurs (MACD line crosses above the signal line), you can consider buying a “CALL” option, anticipating an upcoming rise in the price. Similarly, a bearish crossover (MACD line crossing below the signal line) could be a time to buy a “PUT” option, expecting a forthcoming decline in the price.

Making Informed Trading Decisions with MACD

With the MACD trend following strategy, you can make informed and strategic trading decisions. The convergence or divergence of MACD lines can provide potential buy and sell signals, thereby helping you decide the entry or exit point of your trades. Using these signals effectively can aid in mitigating risks and increasing potential profits. However, remember that it’s critical to confirm these signals with other technical analysis methods to increase success rate and profitability.

Image illustrating the concept of the MACD indicator in binary options trading

Formulating MACD Trend Following Strategy

Understanding MACD

MACD, short for Moving Average Convergence Divergence, is a trend-following momentum indicator that shows the relationship between two moving averages of a security’s price. The MACD is calculated by subtracting the 26-period exponential moving average (EMA) from the 12-period EMA. The result of that calculation is the MACD line. A nine-day EMA of the MACD, called the “signal line,” is then plotted on top of the MACD line, which can function as a trigger for buy and sell signals.

Formulating a MACD Trend Following Strategy

To formulate a MACD trend following strategy, first you must understand the key components of the MACD indicator. These elements include the MACD line, the signal line, and the MACD histogram. The MACD line demonstrates the difference between two exponential moving averages, usually the 12 and 26 day EMAs. The signal line is a 9-day EMA of the MACD line which acts as a buy or sell trigger. The MACD histogram denotes the difference between the MACD line and the signal line.

To develop a profitable trend strategy, you must align your entry and exit trades with the MACD signals. When the MACD line crosses above the signal line, it may be a good time to buy or enter a trade as it signals potential upward price movement. On the contrary, when the MACD line crosses below the signal line, it may indicate a good time to sell or exit a trade as this might indicate a potential downward price move.

Reading MACD Samples

Analysing MACD samples is essential to comprehending potential trends and predicting market movements. Observing the MACD line in relation to the signal line and noting when and where they intersect provides insight into possible market trends and can assist in determining entry and exit points for trades. It’s crucial to closely scrutinise each MACD signal and correlate it with other market situations or indicators to validate its reliability.

Risk and Reward Management

Risk and reward management is a critical aspect of any trading strategy. While MACD provides entry and exit signals, you must also evaluate the potential risks and rewards of each trade. A common approach to this is setting stop-loss orders at a fixed point below the purchase price, limiting potential loss if the market moves against the trade. Simultaneously, take-profit orders can lock in gains when the market moves in a favourable direction.

MACD is just one part of a more comprehensive trading strategy

Incorporating additional indicators or tools, understanding underlying market dynamics, and having a disciplined approach towards risk management will increase the chances of success in the long run. Always remember, no strategy guarantees profits, and all trading involves risk. So, test and refine any new strategy in a simulated environment before applying it in live trading conditions.

Image depicting the interpretation of MACD samples to understand market trends and predict movements.

Through the careful marriage of Binary Options and the MACD trend following strategy, investors can acquire the capability to make informed trading decisions, identify profitable entry and exit points, and ultimately, increase their probability of success in the financial market. The key lies in understanding the inner workings of Binary Options, grasping the mechanisms of the MACD indicator and harnessing this knowledge to formulate a robust trading strategy. With proper risk management and a disciplined approach, investors can wield the combination of Binary Options and MACD as a formidable tool in their trading arsenal, setting the stage for potential financial growth and success.

author avatar image
Chad Smith

Chad Smith is the Director of Research & Analysis here at ForexBrokerListing.com. Chad previously served as an Editor for a number of websites related to finance and trading, where he authored a significant number of published articles about trading and the impact of technology in transforming investing as we know it. Overall, Chad is an active fintech and crypto industry researcher with more than 15 years of trading experience, and you can find him teaching his dog how to trade in his free time.