Implied volatility (IV) is a very important measure if you are trading options. It helps traders to understand the overall market expectation. In mathematical terms Implied volatility explains the expected – annualized one standard deviation range where the stock is expected to trade in the future.
Here is a volatility webinar which explores how to understand and trade volatility. If you are beginner in options it helps you to improve your understanding about implied volatility.
Implied volatility talks about future volatility (expected volatility ). And implied volatility is calculated for each and every strike of option strike prices (Calls and Puts). At the Money strikes Implied volatility generally resembles stocks IV.
Implied volatility tends to increase whenever there is a huge jump in the market expectation due to fear or greed situation. For Example when there is a RBI Policy Announcement or Central Election Results, US Presidential election results or any other macro events are happening that brings lot more expectations among the market participants.
Implied volatility also tends to increase during the earning season. before the earnings announcements generally people have higher expectations about the stocks performance and its earnings hence the implied volatility increases.
Implied volatility tend to decline when the uncertainty is over especially when the negative news flow surrounding a particular stocks starts improving.
Any drastic change in implied volatility directly impacts the option pricing . If the Implied volatility increases then option premium increases and vice versa.
Most of the event announcements are considered as binary events as the outcome is uncertain and that motivates the big investors get into hedging their position until the event is over.
Hence most of the events until the announcement is made implied volatility is held up. Once the announcement is over the uncertainty surrounding the investors will be over and so they will be out of their investing hedges. This phenomenon is called volatility crush