Origins of the Martingale Strategy
Usually more commonly associated with gambling, the Martingale Strategy is also successfully used as a betting strategy for binary options. Now you may have heard of the Martingale strategy without actually knowing what it is all about. So lets explore.
The Martingale strategy was first created by Pierre Levy sometime in the 18th century, and was first used for successful predictions on gambling bets in France. The principle is very easy. The Martingale strategy is based on what is known as the doubling down strategy. According to Pierre Levy, it is possible to successfully recover any money that has been lost in previous bets by consistently setting up bets in the same direction, each time doubling the size of the investment. The thinking is that eventually, the increased payout from a successful trade down the road would cover for any losses that had been sustained earlier.
The strategy, which was first used in the gambling tables, has been adapted for use in the financial markets, as well as in binary options. Obviously, it is not a very good idea to just keep doubling bets continuously, or to keep doing this all the time. So a modification was made to this strategy for use in forex and binary options.
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Martingale Strategy for Binary Options
The Martingale strategy for binary options is a trading strategy which aims to recover capital that has been lost in previous failed trades by consistently doubling the investment amount in subsequent trades. The thinking behind the strategy is that by increasing the amount invested in subsequent trades, it is possible to get an increased payout if the trade is successful, thus eliminating any previous losses that may have been sustained on the account.
How to Apply Martingale Successfully
To better understand how the Martingale strategy in binary options works, the table shown below has been drawn up to enable you get a hang of it. The trader starts with a capital of $2,000 and starts off with an investment amount of $100. We will also assume that the trader’s payout for a successful trade is 80% of invested amount, and that there is no loss return (any invested amount lost = 0% payout).
|Trade Outcome||Invested Amount||Profit/Loss||Account Equity|
The first trade in this example resulted in a win of $80, representing 80% payout for an initial investment of $100. Unfortunately for the trader, the next trade was a loss. Given the fact that a losing trade can wipe out a previous winning trade of the same level of investment with residual loss on the account capital, the trader’s account went below the starting capital. We can also see the sequence of loss continued with the next trade. Now down by $220, the trader decided to employ a Martingale strategy by doubling up on the previous investment. The resulting win ended up covering the losses sustained and still left the trader with $100 extra on the starting capital.
This is a demonstration of how the Martingale trading strategy works. However some points must be duly considered.
- Market conditions are not perfect, and there is indeed no guarantee that the doubled up trade will always end in profits. This element is what makes the Martingale strategy a very risky one.
- To be able to execute the Martingale strategy, the reward to risk ratios must be carefully assessed to determine the safety of the strategy at the particular time.
- Executing a Martingale strategy requires access to a large pool of capital. We can see that from our example that the strategy required the use of $900 in capital. If the doubled trade had ended as a loser, it would have led to the decimation of 40% of the account after only four trades. So the trader must be ready to deploy bank transfers to get as much deposit capital into the account as possible.
- This strategy should be used on the more predictable trade types. Using the Martingale strategy on multiple options is not a good way to deploy the strategy. It is best to use the Martingale strategy on the Call/Put trades, as this is the most straightforward binary option to trade.
How to Use the Martingale Strategy in Binary Options
What is the best way to deploy the Martingale strategy in binary options?
- Only Use Predictable Financial Assets
It is important to trade the Martingale strategy with assets whose movements are more predictable. Assets that are prone to making wild swings in price movements are not suitable for Martingale-based trading.
- Combine the Martingale Strategy with Trend Line Trading
Trend lines are usually used to demarcate areas of support and resistance by connecting the price lows and price highs respectively. Support and resistance areas are important because they provide a sound technical basis for possible price reversals or even price breakouts. This puts an element of predictability into the trade and therefore gives the trader a clue as to when to “double up” the investment.
- Deploy Price Action to Your Benefit
Price action trading using candlesticks is a time-tested method of predicting price behavior. Candlesticks can give an indication of what the buyers and sellers are doing in a market. So by studying the candlestick patterns, you can tell when prices are about to move in a certain direction. This takes away the gambling component from the Martingale strategy and makes for more successful predictions.
- Trade During Times of Peak Market Activity
All financial markets have periods of peak activity. Use this information to your benefit. For instance, the forex market has two periods in the day when two trading zones have a time overlap. This is the peak of trading activity for currencies in the overlapping zones. The stock markets have trading hours and have periods of increased activity within those trading hours.
- Use Sound Money Management Techniques
In the execution of the Martingale strategy, it is important to ensure that sound money management techniques are used. The 3-5% rule in terms of how much exposure of capital can be accommodated in active trades must be followed. This means that the initial set of trades conducted on the account should be done with the minimum trade size, so as to allow for expansion of the trades when the need to double up arises.
- Ensure the Trading Account is Well Funded
One of the key money management principles requires that the trading account must be well funded. This is perhaps the only way to accommodate increased investment into active trades without putting the rest of the capital in great jeopardy. It is important to note that not all Martingale trades will pay off at the first instance. How do you survive in the market if the doubled investment ends in a loss? It is by having a good reserve of trading funds. If you do not have access to such a cash reserve, please leave the Martingale strategy to those who do.
Q: What is the Martingale Strategy?
Answer: It is a betting strategy. It comes originally from the world of gambling but can be used for binary trading too. The basis of this strategy is how much to raise each investment amount depending on whether you lose or win the last trade. The strategy states that you should double up your bet each time you lose the trade before. If you win you should keep the same amount that you have previously bet.
Q: How safe is the Martingale Strategy?
Answer: How long is a piece of string? It really depends on your success levels with the trades you are placing. For instance let’s assume you are having a bad role and you have had 5 losing trades in a row. You started by investing $100, on the second losing trade it goes up to $200, then on the third trade to $400, $800 and then finally by the fifth trade you will need to invest $1600. That’s a huge amount for one trade and it means you will need to have a huge amount of starting capital, as you will lose $3100 in just five trades. If you have a huge bank roll its worth considering as a betting strategy, however it goes against most traders’ capital management and risk management strategies.