The idea of oversold and overbought territory is well known when trading binary options and it is vital for an investor to be aware that all of the indicators, especially oscillators, are designed to show the levels at which the trader should purchase or sell. Some of these levels are extreme, which makes the territory either oversold or overbought,
When trading binary options, if the price is found in the overbought area, the trader should buy put options as they should be looking for lower values to present themselves. The opposite also holds true, so when the asset’s price is found in the oversold area, they should purchase call options as they should be on the lookout for higher values.
Of course, nothing is ever that simple, and there is a catch to this trading strategy. The asset’s price may stay in an extreme area for a considerable period of time, and while the price remains there, it means that margin calls will be trigged on accounts which are attempting to fade the move.
It is also important to note that every oscillator is revealing the oversold and overbought areas and that is why a trader should only use two or three indicators for technical analysis rather than using too many, as they will all show the same thing. Looking at the levels with the CCI, RSI, or another oscillator will add nothing and will only reveal the same information.
When trading binary options, every investor knows that trading is never a straight line, however when a trader is able to play with the extreme levels, putting the expiry date according to the timeframe in which the oversold and overbought appears, it can make all the difference between success and failure.
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What is Oversold and Overbought Territory?
It is important to fully understand exactly what oversold and overboughyt territory is before being able to use this strategy to make a profit.
If the market shows a rising trend, or is in a motive or impulsive wave as demonstrated by the Elliott Waves Theory, breaking the technical levels in the oscillator will make a break into a bullish market. Once the asset’s price is in a bullish market and the move has not ceased but only advances further, it can be assumed that the market is moving in just one direction. This will attract sellers or buyers of put options and the longer the period that the market stays in this area, the more the levels are going to be overbought as increasing numbers of sellers join in.
When it comes to oscillaots, this is taking place when the oscillator moves to and remains in the upper part of the territory to which it has travelled. For example, in the Relative Strength Index, a break above the level of 40-50 is thought to be a bullish break, and a move is considered to be overbought if it goes above 70. Should the price break even at the 80 level, remaining above 70, this is said to be overbought territory. However in either an oversold or overbought territory, it is important to be careful about choosing the right expiry date for the traded option. Investors should look at the timeframe over which the oscillator is being plotted as the larger to timeframe, the more important the interpretation of the oversold/overbought territory.
Analysing the Extended Wave
In Elliott Wave Theory, any impulsive move requires an extended wave, with the market travelling more than 161.8% as compared to the first wave’s length. Usually, it will be the 3rd wave which is extended. An experienced trader will use a Fibonacci expansion tool to measure the first wave’s length to learn the extension and then project that outcome by the time the end of the second wave has arrived. This outcome is said to be the target. Until that target arrives, the market is not oversold, but afterwards, the bulls will join in and purchase call options. However, even then, it would be risk to purchase call options as the 161.8% level is just the minimum requirement for an extended wave. Instead, when using both Elliott Waves Theory and oscillators, the decision whether to trade an option should be taken in conjunction with a divergence or other signal, and the larger the timeframe, the safer the trade.
Other educational articles
- What is the Pinocchio Binary Options Trading Strategy?
- How to Use Hedging Strategy to Manage Risk Effectively in Binary Options Trading
- Using Fundamental Analysis in Binary Options Trading
- Is It Possible to Successfully Trade a Flat Market in Binary Options Trading?
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- Trading Double Combinations, One of the Most Complex Corrective Waves