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My question refers to the fact that, for most part, binary options are basically gambling, but not to the full extent. Due to the advanced models, capital anomalies like Momentum and possibly technial analysis, it is theoretically possible to make, at least, an educated guess about the direction of the stock price.

There are quite a lot of websites out there that offer the possibility of trading binary options even if you are not an investment professional. However, assuming one website is flooded with professionals who really know what they are doing, then there is the, at least, theoretical possibility that most of them are right. How do you, as a broker, insure against that possibility?

I know that it is a little far fetched, but the question was bugging me since I've encountered binary options.

Thanks!

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  • $\begingroup$ Interesting question indeed. Let's also mention the fact that the delta of such options can be infinite, making hedging non-trivial... Any ideas around here? $\endgroup$ – JejeBelfort Jun 2 '17 at 13:24
  • $\begingroup$ european or american? $\endgroup$ – will Jun 2 '17 at 15:41
  • $\begingroup$ Is there a distinction between european or american for binary options? $\endgroup$ – Richard Jun 2 '17 at 18:12
  • $\begingroup$ an american barrier means it can breach at any point in time. $\endgroup$ – will Jun 5 '17 at 7:46
  • $\begingroup$ I get that for barrier options, but isn't it all or nothing for binary options? Wouldn't that mean a significant edge for the buyer? I'm not doubting your expertise, I simply don't know better.:D $\endgroup$ – Richard Jun 6 '17 at 13:47
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If we are talking about brokers who making markets for https://en.wikipedia.org/wiki/Binary_option than I would guess that they aren't hedging at all. It's very common that maturities are in a timeframe of seconds or minutes. In my opinion returns are completely random in those timeframes.

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  • $\begingroup$ I think that's their opinion too - like the 1 minute fx digitals you saw a bunch of last year on spread betting sites. Might as well be playing roulette, but with more scalping. I remember ones where the payoff was 90%. $\endgroup$ – will Jun 5 '17 at 7:45
  • $\begingroup$ So their hedge is basically not offering options for longer time frames? $\endgroup$ – Richard Jun 6 '17 at 13:52
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    $\begingroup$ should price return be random is this timeframe. Your expected win will be =0.5 * 0.75 (if you win) - 0.5 * 1 (if you lose) = -0.125 It's like playing in the casino. The casino have a "unfair" advantage. They don't need to hedge. But this is just my guess. I never worked for such company so I can't say for sure. $\endgroup$ – DataAdventurer Jun 6 '17 at 20:06

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