The Mathematics That Drive Digital OptionsAdded - Sept. 15, 2014 Financial
There are a ton of different choices in financial betting that can be considered "options." However, digital options are somewhat unique in that they are very simple versions of these ways of betting. While they aren't particularly popular in and of themselves, they do offer a lot of lessons that can be applied to other types of options and other types of financial betting in general. If you know the mathematics that drives digital options, then you can quickly apply it to other types of wagers, and that's exactly what we want to teach you to do here.
With a digital option, you're going to be betting on whether something is above a top value or below the bottom value of a range. For example, suppose you have something you're betting on the value of. You might be able to bet on whether it shows up above $100 or below $95. It doesn't matter how far above or below these lines it would go: Winning on $150 would be the same as winning on $101 as far as payouts are involved. This isn't the case with many other types of financial bets, but that's exactly what we're going to be looking at with digital options.
There's one equation you need to know with something like this, and it's based on two numbers. Those two numbers are how much you're risking and what your profit will be if you win. Divide your risk by the sum of your risk and the profit if you win. This will give you a percentage that tells you how often your bet will need to win to be profitable. Then your analysis will be all about trying to determine if the bet will meet that requirement, so it's a pretty straight-forward kind of thing.
Alright so let's look at a real example. An unnamed site is offering a digital option for an unnamed stock to finish below $64.50. They are offering odds of 1.2:1 on this which means that if you bet $100 and win that you will be paid out a profit of $120. To figure out how often you need to win, divide 100 by 220 to get 45.5 percent. Then you can use whatever type of analysis you prefer to try to decide if this has more than a 45.5 percent chance of happening. If it does, you take the bet. If it doesn't, then you look for better positions.