A one-touch option pays a premium to the holder of the option if the spot rate reaches the strike price at any time prior to option expiration. This feature makes one-touch options an attractive choice for investors with specific market conditions in mind.
Key Takeaways
- A one-touch option pays a premium to the holder of the option if the spot rate reaches the strike price at any time prior to option expiration.
- One-touch options are usually less expensive than other exotic or binary options like double one-touch or barrier options.
- Derivatives, like one-touch options, are not frequently traded by small investors.
Simplified Yet Potent: Understanding One-Touch Options
One-touch options allow investors to choose the target price, time to expiration, and the premium to be received when the target price is reached. Compared to vanilla calls and puts, one-touch options enable investors to profit from a simplified yes-or-no market forecast. Only two outcomes are possible with a one-touch option if an investor holds the contract all the way through expiration:
- The target price is reached, and the trader collects the premium paid plus the negotiated payout.
- The target price is not reached, and the trader loses the premium paid to open the trade.
Like regular call and put options, most one-touch option trades can be closed before expiration for a profit or a loss depending on how close the underlying market or asset is to the target price.
One-touch options are useful for traders who believe that the price of an underlying market or asset will meet or breach a certain price level in the future but are uncertain whether that price level is sustainable. Because a one-touch option has only a yes-or-no outcome by expiration, it is generally less expensive than other exotic binary options like double one-touch or barrier options.
Derivatives, like one-touch options, are not frequently traded by small investors. There are some trading venues where they are available, but regulators in Europe and the U.S. have often warned investors that they may be overpriced. In many cases, it is not possible to take advantage of that mispricing by becoming an option writer or seller. Binary or exotic derivatives are usually traded by institutions that can negotiate with one another for better pricing.
Two Possible Outcomes: Real-Life Examples
Price Approaches Target Price
A trader predicts that the S&P 500 will rise by 5% at some point over the next 90 days, but is not sure about how long the index will stay at or above that price. The trader pays $45 per contract to buy one-touch options that pay $100 per contract if the S&P 500 meets or exceeds that target price at any point over the next 90 days. Two weeks later, the S&P 500 rises by 2%, increasing the value of the position since it’s more likely that the index will hit that target price. The trader can then choose to sell their one-touch option contracts for a profit or hold the trade through expiration.
Price Remains Flat or Moves Away From Target Price
Suppose a trader believes the S&P 500 will rise by 5% over the next 90 days and opens a one-touch option trade to profit from that forecast. The trader pays $45 for one-touch option contracts that will pay $100 per contract if the target price is reached. If instead, the index drops by 3% on unexpected news a week later, making it less likely that the target price will be reached before the options expire, the trader might decide to either sell the options at a lower price for a loss or retain them in hopes that the market recovers.
Related Terms: options trading, calls and puts, binary options, financial derivatives.
