Nadex

Nadex (Northern American Derivatives Exchange), formerly known as HedgeStreet, is a CFTC-regulated, retail-focused online binary options exchange. Nadex offers traders the opportunity to trade limited risk binary options and spreads on the most heavily traded forex, commodities and stock indices markets.

History

Nadex originally was known as “HedgeStreet” and was based in San Mateo, California. The Exchange was launched in 2004 offering an electronic marketplace that allowed online retail investors to trade financial derivatives. After more than three years in operation, HedgeStreet shut down its business in late 2007. Shortly thereafter, UK-based IG Group Holdings plc. agreed to purchase HedgeStreet, Inc. for $6 million and began restructuring the exchange, its technology, and its products. In 2009 HedgeStreet was renamed as the North American Derivatives Exchange (Nadex).

HedgeStreet was the first Internet-based government regulated (CFTC) event futures/derivatives exchange.^[2] The company operates the HedgeStreet Exchange, which launched in October 2004 and provides traders with a place where they can hedge against or speculate on economic events and price movements.^[1] The reasoning behind the creation of HedgeStreet was that with the rise of individual private investment in stocks, there might be a similar appetite for individuals to invest in derivatives.^[3] This focus on small investors created sufficient confusion that John Nafeh, founder of HedgeStreet, created the term "hedgelet" to help explain the company's business model.^[2]

In 2007, UK based IG Group announced intent to acquire HedgeStreet^[4][5] and later in the year completed the purchase of the company.

Regulatory Oversight and Compliance

Nadex is the first binary options exchange to be regulated by the Commodity Futures Trading Commission. Unlike many binary options providers, Nadex does not take the other side of member trades or engage in trading of any kind. Member funds are held in segregated accounts in major US banks and are readily refundable.^[6]

Exchange Membership

Nadex is the first derivatives exchange where individuals can become members to trade directly on the exchange with access to a comprehensive trading platform including order entry, market depth, historical data services, cash accounting and position reporting.^[7] Membership is free, and members can trade with a minimum $100 initial deposit.^[8]

Markets

Nadex binary option and spread contracts span a range of underlying markets, from commodity futures and spot forex rates to economic indicators and equity index futures. Contracts are available for a wide range of strike prices with intraday, daily and weekly expirations.^[9]

Exchange-traded Binary Options

Binary options are relatively simple, having only two outcomes - correct or incorrect. Binary options resemble traditional options with one key difference: their settlement value will be 0 or 100 USD. This means that the maximum risk and reward are always known and capped.

If the option expires in the money, each contract settles at a value of $100. If the option expires at or out of the money, each contract expires at a value of $0. The contract size for all binary options is $100. One price tick equals one dollar and the minimum increment is 0.25 ticks.

On the Nadex exchange, traders may open new positions at any time before expiration. Traders may also exit positions at any point prior to expiration with a profit or loss based on the price traded at the time of exit.^[10]

Example Binary Option Trade

1. Crude oil futures are currently trading at $95/barrel, and the trader thinks they will end the day above $95.
2. The trader pays $40 to buy a binary option based on crude oil futures. The option’s strike price is $95.
3. Another market participant believes that crude oil will close the day at or below $95, and puts up $60 to express that opposite opinion by selling the binary option.
4. If crude oil finishes the day above $95, the first trader collects $100, thus profiting by $60 times the number of contracts (not including exchange fees).
5. If crude oil finishes the day at or below $95, the seller, who paid $60, collects $100 for a profit of $40 times the number of contracts (not including exchange fees).

Fully Collateralized Funding

Nadex requires traders to fund the maximum risk of any trade before the position can be opened. Trades are not done on margin and do not involve leverage. Because all trades are fully funded at the outset, Nadex does not issue margin calls. Furthermore, no matter how far the market goes against a trader’s position, the trader is not stopped out.^[11]

Nadex Spreads

Nadex also lists spread contracts. Spread contracts on Nadex trade in a range between minimum and maximum price levels at which the Nadex contract can be settled. If the underlying market moves above that ceiling or below that floor, the spread’s value remains at the maximum or minimum. Because the spread’s value is locked in a range, traders know the maximum possible loss (or profit) in advance.^[12]

Comparison with Underlying Market

For spreads with a wide floor/ceiling range, the underlying market will generally be trading between the floor and ceiling values. The price of the spread in this scenario is likely to be very close to, or even identical to, the price of the underlying market.

In the case of spreads with a narrow floor/ceiling range, the closeness of the floor and ceiling levels means that the underlying market might be trading near (or outside) these levels. This results in prices that reflect a much higher degree of optionality, differing significantly to the price of the underlying market.

Trading Fees

Trading Fees: Members pay trading fees on each side of their trades: once to open and once to close. The fee for each contract is $0.90 with a maximum charge of $9 per order. Settlement Fees: For trades that expire in the money (and thus receive a payout), the trading fee is replaced by a $0.90 settlement fee per contract. Nadex does not charge settlement fees on trades that settle out of the money.^[13]

See also

• Prediction market
• Futures market
• Binary options
• Paper trading

References