IV Skew Analysis: How to Read Put and Call Volatility Skew in Options Trading

Learn IV skew analysis, put and call skew, volatility smiles, and term structure. Explore options volatility with the SecurePutCalls surface tool.

When people examine an options chain, they usually pay attention to the strike price, the expiration date, the premium, and the open interest. Although these figures are helpful, they don't give the full picture. Two options relating to the same stock can have different implied volatility figures even if they expire on the same day. If you understand why this is so, you will be able to gain a more thorough insight into how the options market is pricing possible risk. It is here that IV skew anal…

What Is Implied Volatility?

Implied volatility , which is generally known as IV, is the volatility figure that is mathematically implied by the market price of an option. It shows the level of future price movement that is consistent with the current premium of the option when using an options pricing model. Unlike historical volatility, which measures the extent of an asset's past movements, implied volatility is calculated from current market prices. For example, imagine that a stock is trading at $100 and that both a ca…

How Implied Volatility Affects Options

If implied volatility rises, the theoretical value of call options and put options will also increase, all else being the same. This occurs since a greater expected movement leads to more opportunities for an option to end up in a profitable position before or at expiry. Take the case of a stock trading at $100. A 30-day at-the-money call could have an implied volatility of 25%, whereas a comparable call with a different strike might have an implied volatility of 32%. This second option may have…

What Is IV Skew in Options Trading?

IV skew refers to the difference in implied volatility among options that have different strike prices, typically relating to the same underlying asset and expiry date. A strike price is the price at which an option may be exercised, according to the terms of its contract. Traders are able to determine whether volatility is spread evenly or whether the market has assigned more volatility to one side of the options chain by examining the implied volatility at a number of different strikes. For in…

Why Does Implied Volatility Differ Across Strikes?

In a simple textbook approach, options based on the same underlying asset and with the same expiry date could be represented by a single volatility figure. Real options markets, however, are more complicated since traders do not always assign the same volatility to all different strikes, because various strikes may have different levels of demand, different liquidity, different hedging requirements, and different exposure to market risks. A significant factor is the demand for downside protectio…

Put Skew vs. Call Skew

The phenomenon known as "put skew" involves implied volatility being greater for certain put option s than for other, comparable options that are closer to at-the-money or on the call side. In most equity options markets, puts with a downward movement have in the past been traded at a higher implied volatility than similar calls with an upward movement. This situation is generally linked to the demand for downside protection, although it is not a universal rule. Call skew is a phenomenon in whic…

Understanding Put and Call Volatility

Consider this hypothetical example for a stock trading at $100: The put option's curve becomes steeper as the strike prices fall below the level of the stock price. This shows that there is a greater downside volatility skew in this imaginary chain. The call side rises as well, but the slope of its increase is less steep within the range shown. When looking at put and call skew, it is best to compare options that have the same expiry and the same underlying asset; if this is not possible, differ…

How to Read IV Skew Step by Step

It's simpler to analyse the volatility skew if you stick to a steady procedure; instead of searching for a single figure that accounts for the whole market, you should look at the curve, the rate at which it slopes, its expiry structure, and any odd changes.

1. Compare IV Across Strikes

Begin by choosing one underlying asset and one expiration date, then note the implied volatility for a number of strikes that are below, near, and above the current stock price. At-the-money options can often serve as a useful reference point since their strike prices are close to the current price of the underlying. For instance, where a stock is trading at $100, and the 30-day IV is 35% for the $90 put, 29% for the $100 strike, and 31% for the $110 call, the volatility is not level. The put si…

2. Identify Put-Side Skew

Now look at how the implied volatility changes as the strike price moves below the current stock price. A downside skew will be indicated if the implied volatility increases steadily at lower strike prices. The extent of this increase can be used to determine whether the curve is relatively gentle or steep. A typical method of calculating the difference is to take the implied volatility of a lower strike and subtract that of a reference strike. For instance, if a 30-day at-the-money $100 option…

3. Examine Call-Side Skew

Look at the volatility changes at higher call strikes after looking at the puts. In some cases the call-side IV is fairly flat, while in others it increases noticeably. Let us assume that the implied volatility at the money is 25 per cent, that the implied volatility of the $105 call is 28 per cent, and that the implied volatility of the $110 call is 33 per cent. In this hypothetical case, the implied volatility of the calls increases as the strike price rises. This pattern shows that there is a…

4. Measure Skew Steepness

Skew steepness refers to the rate at which implied volatility changes with respect to different strike prices. A basic way of measuring it is to divide the difference in implied volatility between two strikes by the difference in their strike prices. For example, assume a stock is trading at $100: $95 put IV: 30% $85 put IV: 40% The difference in implied volatility is 10 percentage points over a strike range of $10. This works out to a simple slope of 1 percentage point of implied volatility for…

5. Compare Different Expirations

The IV skew is not necessarily the same for weekly, monthly, and longer-dated options; choose several expirations and compare the volatility curve at similar relative strikes. This procedure helps to show whether the skew is concentrated in the near-term options or if it continues along the term structure. For instance, short-term options may exhibit a sudden change in implied volatility around an earnings announcement, whereas longer-term options will show a more gradual curve. By comparing the…

6. Look for Unusual Changes

Lastly, it is necessary to compare the present skew with earlier observations; if a curve becomes considerably steeper, it could be due to a change in the demand for protection, an approaching event, a shift in market sentiment, or new liquidity conditions. It is rarely possible to determine the reason for a change in skew on the basis of a single observation. Before reaching any conclusion, you should look at the volume, the open interest, the bid-ask spreads, the movement in the stock price, t…

IV Skew vs. Volatility Smile

A volatility smile is seen when implied volatility is relatively low at the at-the-money strike and higher at the lower and higher strikes; when it is plotted against strike price, the curve takes the shape of a smile. A volatility skew is the result when the curve is asymmetrical; the IV on one side could be considerably higher than on the other, or the IV could increase more steeply in one direction. For instance, a downward-sloping curve might indicate that the IV is higher at lower put strik…

How IV Skew Can Affect Options Pricing

Implied volatility is one of the main inputs used in options pricing models; if two options which are in all other respects comparable have different implied volatility figures, this difference can have an impact on their theoretical premiums, since a higher level of implied volatility usually increases the time value of both calls and puts, all things being equal. Let us consider two imaginary put options which have the same underlying stock, the same expiry date, and the same general contract…

Understanding IV Skew Across Expirations

The term structure of options, also known as the IV term structure, shows how implied volatility varies with different expiration dates; for example, a one-week option, a one-month option, and a six-month option may have different volatility levels and different skew patterns. For example, if a stock has an earnings announcement scheduled for two weeks from now, the short-dated options that include this announcement might have a higher IV, whereas the longer-dated options would reflect a differe…

How a Volatility Surface Helps With IV Skew Analysis

A volatility surface is a three-dimensional diagram showing implied volatility for different strike prices and expiration dates, with one axis indicating strike price or moneyness, another showing the time to expiration, and the third showing implied volatility; rather than looking at one options chain at a time, traders can see how volatility varies over the two key dimensions. It is useful since there is a connection between IV skew and the term structure. A steep put skew might be seen in nea…

Using SecurePutCalls for IV Skew Analysis

For traders who wish to study volatility patterns using a structured interface, SecurePutCalls offers a range of options analytics tools, one of which is a Volatility Surface featuring IV Skew Analysis. The SecurePutCalls Volatility Surface is suitable for traders who want to look at implied volatility across different strikes and expirations rather than just examining individual IV values. A visual representation of the volatility surface can help make the connection between strike prices, expi…

Common Mistakes When Interpreting IV Skew

It is a common error to think that a high put IV means that a market crash is expected. Such elevated put volatility can be due to demand for insurance, portfolio hedging, liquidity conditions, or other reasons and does not offer a guaranteed prediction of a decline. It is also a mistake to compare options which have different expirations as if they were the same. An option with a seven-day expiry and one with a ninety-day expiry can have quite different volatility features. Generally speaking,…

Risk Disclaimer

IV skew is an analytical measure which shows the differences in implied volatility among various option strikes or expirations. It must not be relied on by itself when making trading decisions. Since options carry considerable risk, it is possible to lose the whole amount invested and, in certain strategies, losses may go beyond the original amount put into the investment. The hypothetical examples given in this article are for educational use only and should not be regarded as investment recomm…

Conclusion

The IV skew analysis enables options traders to see the reason why implied volatility can differ between put and call options. Traders can gain a clearer understanding of how the options market prices various kinds of risk by comparing the volatility across different strikes, looking at the put and call skew, assessing the steepness of the skew, and examining the term structure. A volatility smile and a volatility skew refer to different shapes, whereas a volatility surface combines information…