Binary Options Eachway Tunnel definition and price profile
This post is published by Hamish Raw of https://hamishraw.com/
The binary options eachway tunnel, corridor, rangebet is a volatility trade, as is the standard binary options tunnel, but with the binary options eachway tunnel there are a further two strikes providing three different settlements levels, not counting the ‘dead heats’.
The example offered in Figure 1 is the Hang Seng 19,250/19,750/20,250/20,750 binary options eachway tunnel which settles at zero outside the outer two strikes, between the inner two strikes the strategy settles at 100, while between the inner strikes and outer strikes the settlement price is 40.
The binary options eachway tunnel provides a second place for the buyer who believes the underlying will be between the two inner strikes but gets it slightly wrong.
Figure 2 illustrates the price profiles over time with 22% implied volatility.
The 25-day (blue) binary options eachway tunnel has a price that travels from 18.83 and 20.43 at the outer ranges (18,900 and 21,100) of the HSI range to just 29.72 with the underlying at 20,000; this reflects low binary options eachway tunnel delta and gamma. The 1-day (red) to expiry profile is still smooth and still has not adopted the ‘head and shoulders’ expiry settlement shape. With 0.1 days to expiry (black) the ‘head and shoulders’ profile is now pronounced with greater risk for the trader and market-maker when the underlying is close to the two inner strikes.
The 1-day and longer binary options eachway tunnel price has profiles akin to short conventional straddle price profiles but without the unlimited downside risk. This strategy has the ability to compete with its conventional counterparts and has clear attractions for both traders and clearing houses.
With the underlying at the edges of the graph, i.e. at 18,900 and 21,100, with 3 days to expiry the strategy is worth about 7.83 and 9.32 and may be considered a directional play. For example, if the underlying rallied from 18,900 to 19250 where the binary options eachway tunnel is worth about 25.37 a 224% return could be achieved, just a 350 tick move. This return would be 1,177% if the underlying was between the two central strikes at expire, a rise of between 850 and 1,350.
The graph below offers binary options eachway price profiles over a range of different implied volatilities for the above Hang Seng Index example. Here a wide (and unrealistic) range of implied volatilities are used to illustrate the effect of implied volatility on the price of the strategy.
At a high implied volatility the underlying is forecast to oscillate along the HSI price range which, in turn, offers very little chance of an accurate forecast as to where it might be at the expiry of the strategy. As volatility falls to 6% (red) the head-and-shoulders profile is gradually assumed. At 20,000 a seller of volatility at 30%, i.e. a buyer of the strategy, would make a profit of 11.28 if it fell to 22%.
Evaluating the Binary Options Eachway Tunnel
The binary options eachway tunnel is calculated by:
Binary Options Eachway Tunnel = 100 x (0.4 x Binary Call(K1) + 0.6 x Binary Call(K2)
– 0.6 x Binary Call(K3) – 0.4 x Binary Call(K4))
where K1 is the lowest strike and K4 is the highest.
As with the eachway call and eachway put the returns are not cast in stone but the first two and last two settlement prices must each add up to 1, e.g. 0.4 and 0.6 as above, or 0.25 and 0.75, 0.2 and 0.8 etc..
The Skyline binary options strategy takes this concept a stage further with a different numbers of strikes on the way up as to on the way down.