By Darrell Martin
It’s important to understand how settlement works in regards to whatever instrument and contract type you are trading. This article, while using an example of a Nadex trade that settled out of the money, will lay out a few areas where misunderstandings can easily happen. The example here will spell out a number of areas to have clarity in while trading. First, take a look at the settlement information on the example trade.
Your position in the EUR/USD >1.1259 (11AM) contract has settled. The details of your settled position are shown below for your reference:
Settlement Details: Contract: EUR/USD >1.1259 (11AM) Quantity: 1 Expiration Value: 1.12328 Payout Amount: $0
In this example of a Nadex binary EUR/USD trade, the market was clearly beneath the strike of the bought binary by a significant amount of ticks at the expiration of the chosen binary.
Basic Binary Review Obviously, it’s imperative to understand upfront before entering the trade how a binary itself works. To briefly review, here is a short list of explanation:
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A binary is a true or false statement, EUR/USD >1.1259 (11AM),where true means you believe it to be true; you are buying it and false means you believe it to be false; you are selling it
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Each binary is worth $100
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If you buy a binary, you need the market to be greater than the strike price, thereby settling in the money (ITM)
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If you sell a binary, you need the market to be at or less than the strike price
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Profit for a bought binary is the difference between what you paid and $100
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Risk for a bought binary is the difference between what you paid and $0
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Profit for a sold binary is the difference between what you paid and $0
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Risk for a sold binary is the difference between what you paid and $100
Looking at a chart you can see the binary clearly was out of the money (OTM) and not profitable at settlement.
The chart posted for you of EUR/USD on the Ninja Trader charting platform clearly shows the price was under the bought binary at expiration so it expired OTM.
Three Important Points There are three very important points to remember when trading and also when it comes to settlement.
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Be sure you are looking at the correct date and time on a chart. Nadex Quotes in Eastern Time. Therefore, when trading Nadex or other markets that quote in Eastern Time, make sure whatever chart your chart is in Eastern Time.
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Be sure to understand how the market quotes. For this trade the expiration value is 1.12328. It’s important to know that the placement of the 8 quotes is in tenths of a pip.
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Be sure to verify how your bars do timestamps on your charts. Some charting platforms stamp with the beginning of a bar. For example, Think Or Swim (TOS) time stamps with the beginning of the bar. Therefore, if you have up an hourly bar chart, you may be confused compared to a charting platform like Ninja Trader which puts the time stamp on the end of the bar. In actuality, a TOS user looking at say a one-hour bar with an 11 AM timestamp, is actually looking at a bar with a 11:59:59 close. A ninja trader user looking at a bar with an 11 AM timestamp is looking at a bar with an 11 AM timestamp for the close of that bar, as Ninja Trader quotes the bar’s time at the end of the bar.
Again looking at the screenshot of the Ninja Trader chart, it shows the bar that closed at 11 AM. It is right on par with a settlement indicative, which would vary slightly, as an average weighed price is used on all US regulated exchanges to ensure price is NOT manipulated by all regulated exchanges including CME, NYSE, CBOE etc…
Regardless of the above facts, if you buy a binary the market, in this case the EUR/USD, has to settle at a price >, or greater than, the strike price to profit. For this example, the bought Nadex EUR/USD Binary had the strike of 1.1259, the market was well below this price at expiration at 1.12320 as shown in the chart above.
In this case, it was by every measure on every chart very far out of the money. To better understand Out of the Money, At the Money and In the Money binaries you can take a look at these videos listed below.
OTM Binaries: Scan OTM
ATM Binaries: Scan ATM
ITM Binaries: Staying Above Strike With Little Movement - Time Decay
It is also important to know how the settlement number is derived. The difference between the listed strike on the example Nadex contract, EUR/USD >1.1259 (11AM) and the settlement value, 1.12328, was approximately 27 pips. However, at the specified expiry time of the contract, the underlying EUR/USD market was trading around the price that Nadex calculated as the settlement value using the process used for every settlement calculation. Basically, Nadex takes the last 10 Midpoints between the bid/ask spread, just prior to the close of trading of the EUR/USD Variable Payout Contract. They then remove the higher three Midpoints and lower three Midpoints, then, average the remaining four and that is the settlement price.
This should help in clarifying anything that may be confusing about settlement.
For a more in depth definition of how Nadex calculates the settlement price see below. This is an actual excerpt from their rules.
(n) EXPIRATION VALUE – The Expiration Value is the price or value of EUR/USD released by the Source Agency on the Expiration Date. The Expiration Value is calculated by the Source Agency by taking the last ten (10) Midpoints between the bid/ask spread (ten pips wide or less) just prior to the close of trading of the AUD/USD Variable Payout Contract and removing the highest three (3) Midpoints and the lowest three (3) Midpoints, using the remaining four (4) AUD/USD Midpoints to calculate the Expiration Value. The calculation used is a simple average of all four (4) AUD/USD Midpoints, rounded to one decimal point past the precision of the underlying market. A Midpoint is calculated by adding the bid price and the ask price together and then dividing that number by two (2). For example, if the bid price is 1.3400 and the ask price is 1.3402, the two numbers are added together (totaling 2.6802) and then divided by two (2), equaling a Midpoint of 1.3401. If the spread between a particular bid price and ask price is deemed too wide (greater than ten (10) pips), those prices will not be used to calculate a Midpoint and will thus not be included within the 10 initially captured values.
To learn more on how to trade Nadex binaries, you can visit www.apexinvesting.com. Nadex is available to trade from 49 different countries.