Understanding Implied Volatility Patterns Across Strike Prices
Adjust the controls below to see how different market conditions affect the volatility skew pattern
Options skew occurs when options with the same expiration date but different strike prices have different implied volatilities. In theory, all options on the same underlying asset should have similar implied volatilities, but in practice, market forces create this skew pattern.
Out-of-the-money puts have higher implied volatility than at-the-money options. This reflects investors' willingness to pay a premium for downside protection.
Market makers adjust prices based on supply/demand, crash fears, and hedging needs. Heavy demand for protective puts drives their prices (and implied volatility) higher.
Traders can exploit skew by buying relatively cheap options and selling expensive ones, or by adjusting their strategies based on the skew pattern.
Skew affects delta hedging, position Greeks, and overall portfolio risk. Understanding skew is crucial for proper risk assessment.
Compare different types of skew patterns commonly observed in the market
Pricing Accuracy: Skew helps traders identify mispriced options and arbitrage opportunities.
Risk Assessment: Different skew levels indicate varying market sentiment and risk perceptions.
Strategy Selection: The skew pattern influences which options strategies are most profitable.
Hedging Efficiency: Understanding skew improves hedging effectiveness and cost management.