Implied Volatility — The Market's Expectation Priced Into an Option
If an option on the same stock at the same strike got more expensive than yesterday? Even if the stock is unchanged, the 'swings the market expects' — implied volatility — may have risen.
What Is Implied Volatility
Implied volatility (IV) is the outlook for future volatility that is 'already reflected' in the current option price.
An option's price is determined by the underlying asset's price, the strike, expiration, interest rates, and volatility. The other values are observed in the market, but volatility alone is 'the future,' so it cannot be known. So conversely, the volatility 'back-calculated' from the option prices trading in the market is implied volatility.
In other words, IV is a collective expectation of 'how much market participants think this asset will swing going forward.'
How It Differs From Realized Volatility
There are two kinds of volatility.
Realized volatility (past volatility) is a 'fact' calculated from how much actual past prices swung.
Implied volatility is an 'expectation' of how much prices will swing going forward, embedded in option prices.
The two often diverge. When the market is anxious, IV can form higher than actual volatility, and when it is overly optimistic, it can lie low. This difference itself becomes an important factor in options trading.
Implied volatility is reflected in the option price through 'vega' among the Greeks (vega = the change in option value per 1 percentage point change in IV). For details, see the Option Greeks piece.
VIX — the Whole Market's Implied Volatility
The representative measure that indexes individual options' IV at the whole-market level is the VIX (the fear index). The VIX aggregates the implied volatility of S&P 500 options to represent the volatility the market expects over roughly the next 30 days.
When the VIX spikes, it means the market expects big swings, and it usually surges together in crashing markets. That is why it got the nickname 'fear index.'
The higher IV is, the more expensive options get. It is the same principle as the 'insurance premium' rising when things are anxious. So options bought at the moment fear peaks tend to be bought expensive.
よくある質問
Q. If implied volatility is high, is it unconditionally dangerous?
High IV is a signal that 'the market expects big swings'; it does not tell you the direction (whether it will rise or fall). That said, when IV is high, option premiums get expensive, so even if you guess the same direction, an option bought expensive may profit less or take a loss. That is why IV is a key variable for understanding an option's 'price tag.'
Q. Are IV and VIX the same thing?
Not entirely. IV is the implied volatility embedded in a single individual option, while the VIX aggregates the IV of S&P 500 options and indexes it at the whole-market level. The VIX can be seen as 'IV's market representative.'
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