In cylinder or tunnel option, the correct option is a.   If the spot rate is lower than the lower strike rate then buyer has to pay lower spot rate. b.   If the spot rate is lower than the...

In cylinder or tunnel option, the correct option is


a.   If the spot rate is lower than the lower strike rate then buyer has to pay lower spot rate.

b.   If the spot rate is lower than the lower strike rate then buyer has to pay lower strike rate.

c.   If the spot rate is higher than the higher strike rate then buyer has to pay lower strike rate.

d.   If the spot rate is higher than the higher strike rate then buyer has to pay higher strike rate.

Asked on by nirmalnss

1 Answer | Add Yours

justaguide's profile pic

justaguide | College Teacher | (Level 2) Distinguished Educator

Posted on

A cylinder is an option strategy which is also called a vertical spread. It allows traders to reduce the loss they make if the price of the underlying moves in the opposite direction to what was expected at a lower cost. If the price of the underlying moves as the trader expects it to a profit can also be made.

The type of cylinder that is adopted can be bullish or bearish depending on which way the trader is expecting the price of the underlying to move. A bullish cylinder would involve buying a call with a lower strike price while selling a put with a higher strike price. The premium received when the put is sold reduces the cost of buying the call. Here, the profit is capped at the difference at expiry between the price of the underlying and the strike price of the call that has been bought. If the price of the underlying decreases instead of increasing the maximum loss is the difference between the price of the underlying and the strike price of the put that has been sold. The reverse holds for a bearish cylinder.

Depending on the type of cylinder that has been created options B and D are correct. If the spot rate is lower than the lower strike rate the buyer has to only pay the lower strike rate and if the spot rate is higher than the higher strike rate then the buyer has to only pay the higher strike rate.

We’ve answered 318,960 questions. We can answer yours, too.

Ask a question