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What Is An Options Contract?

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What Is An Options Contract

An options contract is an agreement between two parties to facilitate a potential transaction on an underlying security. The transaction involves the buying and selling of a security, usually a stock, at a specific price before the contract’s expiration date. Similar to futures and perpetual contracts, an options contract is a derivatives product. This means that it derives its value from an underlying security.

There are two types of options contracts — a call option, and a put option. The buyer of a call option has the right to purchase the underlying security at a predetermined price before its expiration date. The buyer of a put option has the right to sell the underlying security at a predetermined price before its expiration date. The predetermined price is also known as the strike price.

Many investors believe that options buyers are obligated to purchase or sell the underlying security. This is not true. The buyers are not required to purchase anything even though they have the right to do it.

There are two parties involved in an options transaction, the buyer and the seller. As we discussed, the buyer decides if they will purchase the underlying security attached to the options contract. If the security is purchased, this is known as an exercise. The options contract is “exercised” if the buyer of the option accepts delivery of the underlying security. The seller of the option is required to deliver the security to the buyer. The seller “writes” the options contract and the buyer purchases the contract.

How Does an Options Transaction Work: Example

Nancy is bullish on the future of online shopping. She believes that online shopping will increase dramatically during the next few years. Therefore, Nancy decides to invest in the world’s largest online retailer, Amazon (AMZN). However, she has a limited amount of funds for her AMZN investment. The current price of AMZN is $3,342 per share. Instead of purchasing the stock, Nancy decides to purchase an Amazon call option with a strike price of $4,000 per share. The expiration date of the call option is the 16 of April. This call option gives Mary the right (but not the obligation) to own 100 shares of AMZN at $4,000 per share. The current price of the call option is 48.95. Therefore, Nancy’s total cost is $4,895 (48.95 x 100). The cost of the option is known as the premium. The seller (i.e. writer) of the call option collects Nancy’s premium.

Successful Case

Nancy’s bullish forecast turned out to be correct. The price of Amazon stock exploded to the upside. On the expiration date of the call option, AMZN was trading at $4,301 per share. Therefore, the value of the stock was well above Nancy’s strike price of $4,000. Nancy has two choices. She can sell the call option and collect the proceeds or she can exercise the option. The current price of the call option is 301.20. Therefore, the option is valued at $30,120 (301.20 x 100). If Nancy sells the call option, she will have a nice profit of $25,225.

In addition to selling the call option, Nancy can exercise the option. By exercising the option, she will own 100 shares of AMZN at her strike price of $4,000 per share. The writer of the option is obligated to sell Nancy 100 shares at $4,000 per share. Whichever path Nancy selects will be quite profitable.

Nancy’s call option is considered to be “in the money” because the underlying security (i.e. AMZN) is trading above the strike price. Nancy has until the day of the option’s expiration date to decide if she wants to exercise the option or simply sell the option. She decides to exercise the call option and become the owner of 100 shares of AMZN. Based on the fact that she has exercised the option, the call writer will be required to establish a short position in AMZN at $4,000 per share.

Unsuccessful Case

What happens if AMZN is trading below its strike price on 16 April? Nancy’s call option would expire worthlessly and the call writer would keep the premium. The transaction would be complete. History tells us that 80% of all options expire worthlessly.

Vise Versa Approach

What if Nancy is bearish on AMZN instead of bullish? Instead of purchasing a call option, she would purchase a put option. The writer of the put option would collect the premium. If the put option is “in the money” on the expiration date, Nancy can exercise the option or sell the option. If she exercises the put option, the writer is required to buy 100 shares of AMZN on the expiration date. Nancy would be short AMZN at the strike price.

As you can see, options contracts offer several different strategies for the buyer. It is a great investment vehicle for active traders. This explains why call options and put options are the most widely used strategy for hedging.

Brief Summary Of An Options Contract

  • An options contract is an agreement between two parties to facilitate a potential transaction.
  • The transaction involves the buying and selling of a security, usually a stock.
  • A transaction occurs at a specific price before the contract’s expiration date.
  • An options contract is a derivatives product.
  • There are two types of options contracts, a call option, and a put option.
  • The buyer of a call option has the right to purchase the underlying security.
  • The buyer of a put option has the right to sell the underlying security.
  • The security is purchased at a predetermined price before its expiration date.
  • The predetermined price is known as the strike price.
  • If the security is purchased, this is known as an exercise.
  • The options contract is “exercised” if the buyer of the option accepts delivery.
  • The seller of the option is required to deliver the security to the buyer.
  • The seller is also known as the “writer” of the contract.
  • The seller “writes” the options contract and the buyer purchases the contract.
  • Options contracts are very popular among traders and investors.
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Knowledge Center

Everything You Need to Know About Binance USD

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binance usd coin

Binance USD (BUSD) is a fiat-backed stablecoin designed to address issues of accessibility, flexibility, and speed on the blockchain. A cryptocurrency exchange leader, BUSD, is currently the second-largest stablecoin on the blockchain by market cap.

This flexible cryptocurrency is stable, regulated, and can be swapped on multiple blockchains. Investors can use BUSD on the Ethereum chain, Binance Chain, and Binance Smart Chains.

What Is Binance USD?

Binance USD (BUSD) was created to be a safe investment for cryptocurrency investors looking to invest in a low-volatility stake. This cryptocurrency is pegged at the value of the US Dollar. The New York State Department of Financial Services regulates Paxos, the creators of this currency.

USD is a fiat-backed stablecoin backed by Paxos instead of a government. As a result, Paxos holds the equivalent of the total amount of BUSD in US dollars in its financial reserves. BUSD is a stablecoin that keeps pace with the price of the United States dollar.

When the price of the dollar rises or falls, the price of BUSD fluctuates as well. Paxos issues monthly audits to verify collateralization.

Key Features of BUSD

1. BUSD is regulated

2. Fiat-backed stablecoin backed by a reserve

3. 1:1 ratio price fluctuates with US Dollar

4. Operates on multiple blockchains

Who Created Binance USD?

Paxos and Binance created Binance USD.

When was Binance USD launched?

Binance USD (BUSD) was launched in September 2019 as a partnership between Paxos and Binance.

How Does Binance USD Work?

They first issued BUSD on the Ethereum blockchain as ERC-20 tokens. Binance USD is one of only three cryptocurrency tokens currently approved by Wall Street regulators. The New York-based financial company Paxos issues BUSD tokens.

Paxos collateralize BUSD tokens by holding equivalent dollar amounts in regulated US bank accounts. Paxos is also responsible for creating and burning BUSD tokens.

Paxos and Binance designed BUSD to be a low-volatility investment for crypto traders seeking highly liquid investments. Investors can easily convert their BUSD investment into fiat-backed currency during times of volatility.

How To Keep Your Binance USD Safe?

Cryptocurrency experts recommend taking security measures like using two-factor authorization (2FA) to manage online Binance USD accounts and wallets. Serious investors use Binance USD wallet software to store, protect, and manage investments. They do this by using public and private keys to store value.

Is Binance USD A Good Investment?

We do not provide investment advice. Cryptocurrency traders looking to invest in Binance USD should do their research on the history and performance of BUSD and choose the best options that fit their investing style and budget.

It’s important for investors to consider how much they can afford to lose on investments with downturns before committing to any investment. The creators of Binance USD designed BUSD as a low-volatility asset for crypto traders seeking high liquidity. This stablecoin’s goal is to remain stable and as close to the value of one dollar as possible. While its performance appears stable, this can change at any time.

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What are Candlesticks and How to Read Them

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what is a candlestick in stocks and crypto

A candlestick is a type of price chart used in technical analysis to forecast the future price direction of stocks, commodities, and cryptocurrencies. Each candlestick is a graphical representation of a price movement for a specific period. Four different price points are displayed on each candlestick. They include open, high, low, and close.

Candlesticks are one of the oldest forms of technical analysis. According to historical records, candlestick charting can be traced back to Japanese rice merchants during the 18th century. Most financial historians agree that Munehisa Homma was responsible for popularizing candlestick charting.

Candlestick formations are based on a strict set of rules which are universally accepted among all traders and investors. Let’s review a few of the most basic candlestick formations and patterns.

Candlestick Formations

A solid red candlestick is displayed if the opening price is above the closing price (Chart #7).

how to read candlesticks

A hollow candlestick is displayed if the closing price is above the opening price (Chart #8).

what is a candlestick

Bullish Candlestick Patterns

Big White Candle – The market opens near the low and closes near the high (Chart #9).

big white candlestick

Doji – The opening and closing price is virtually identical (Chart #10).

doji bullish candlestick

Hammer – A candlestick that consists of a small body near the daily high with a long lower tail (Chart #11).

hammer bullish candlestick

Bearish Candlestick Patterns

Big Red Candle – The market opens near the high and closes near the low (Chart #12).

big red bearish candlestick

Inverted Hammer – A red or white candlestick within an upside-down hammer position (Chart #13).

inverted hammer bearish candlestick

Shooting Star – A red or white candlestick with a small body, a long upper shadow combined with little or no upper tail (Chart #14).

shooting start bearish candlestick

Brief Summary of Candlesticks

  • A candlestick is a type of price chart used in technical analysis.
  • Each candlestick represents price movement for a specific period of time.
  • Four different price points are displayed on each candlestick.
  • The price points include open, high, low, and close.
  • Candlesticks are one of the oldest forms of technical analysis.
  • Candlestick charting was first used by Japanese rice merchants during the 18th century.
  • Munehisa Homma was responsible for popularizing candlestick charting.
  • Candlestick formations are based on a strict set of rules.
  • These rules are universally accepted among all traders and investors.
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What Is an IEO?

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initial exchange offering

An Initial Exchange Offering (IEO) is a type of token sale administered by a cryptocurrency exchange. The entire process is controlled and managed by the exchange on behalf of the crypto company. Both parties have a vested interest in the success of the IEO. Neither party receives a payout unless investors purchase the token through the participating exchange. Therefore, it’s not uncommon for the exchange and the token issuer to join forces to help with marketing, promotions, and advertising.

Before launching the IEO, the crypto exchange and token issuer sign an agreement outlining the payout structure. Typically, the token issuing company is required to pay a listing fee along with a percentage of tokens sold through the crypto exchange. The majority of IEO agreements stipulate that the new token must be listed on the exchange for a predetermined amount of time following the initial sale of the token.

Investors who participate in the IEO are required to open an account with the participating crypto exchange. Instead of sending money to the token issuer through a smart contract, the investor deposits funds into his/her crypto account. Funds are dispersed by the crypto exchange to the crypto company.

IEO Versus ICO

As you may recall from our ICO discussion, the first ICO was launched in 2013. However, the ICO explosion did not occur until 2017, followed by its peak in 2018. Without question, the chief complaint within the crypto community concerning ICOs was a large number of failures and outright scams. In fact, the failure rate approached 90% in 2018.

As we have discussed several times, the cryptocurrency community is incredibly innovative. This community is filled with some of the brightest minds in global finance. Not surprisingly, a small group of young men and women were quick to replace problematic ICOs with IEOs in early 2019. The first major crypto exchanges to join the IEO wave occurred in January 2019. IEO activity continues to flourish in 2020.

The main difference between IEO and ICO is the level of success. In a typical ICO, the crypto company received funding immediately upon issuance of the token. Investors had very little recourse once the tokens were dispersed. They were trapped in a vulnerable position. Sadly, many unscrupulous start-up firms basically disappeared upon receipt of the funds commonly known as a ‘rug pull’.

IEOs solve this problem by preventing the token issuer from receiving funds immediately upon the distribution of the tokens. As we discussed earlier, both parties work together to ensure the success of the project, which increases the likelihood of a rising token price.

Although IEOs have only been in existence for two years, the popularity of this new fund-raising method has increased substantially. The success rate of projects launched on IEO is much higher compared to ICOs. Most likely, this trend will continue.

IEO Regulatory Environment

As you may recall from our ICO discussion, crypto companies struggled to clear all of the regulatory hurdles to satisfy financial regulators. Unfortunately, IEO participants, are experiencing the same type of regulatory problems that plagued the ICO marketplace. This by and large means that regulators dissuade people from taking part in IEOs.

A positive to this is that IEOs are largely unregulated and don’t have to satisfy bureaucracy that can stifle innovative projects.

Financial regulators, particularly in the United States, claim that an initial exchange offering is similar to an initial coin offering, even though the token issuer is not directly involved in the sale of the token. An ongoing problem with regulation is whether or not any particular token counts as security and needs regulation, or whether they are utility tokens. Exchanges will typically avoid listing securities on an IEO as it means they have to submit to regulation.

To avoid the strict regulation requirements around securities, crypto exchanges may even opt not to offer tokens in countries like the United States where there is ambiguity about regulation. As long as the IEO is not soliciting in a particular country, registration is not required.

Due to the overwhelming success of IEOs, many of the world’s largest crypto exchanges are becoming heavily involved in IEOs by offering tokens on behalf of start-up companies. Most likely, this trend will continue.

Brief Summary of IEO

  • An initial Exchange Offering is a token sale administered by a crypto exchange.
  • The entire process is overseen by the crypto exchange.
  • Neither party receives a payout unless investors purchase the token.
  • The exchange and token issuer will often collaborate with marketing and advertising.
  • Both parties sign an agreement outlining the payout structure of the IEO.
  • The new token will be listed on the exchange for a predetermined time period.
  • Participating IEO investors are required to open an account with the exchange.
  • Investors pay for the token by depositing funds into their crypto account.
  • IEOs have proven to be safer than ICOs.
  • Many crypto exchanges are not participating in heavily regulated countries.
  • IEOs have become very popular in the crypto universe.
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