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Thursday, December 20th 2018

QQQ Puts Get Pricey

QQQ Puts Get Pricey

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Summary

Since the February VIX debacle, the put call skew has increased to almost year highs, indicating that investors are buying more out-of-the-money puts and implying worry in the market. ORATS measures the surface using at-the-money volatility, strike slope, derivative, and earnings effect, and provides accurate at-the-money volatility readings important for summarizing the term structure.

There has been an interesting shift in how options investors value puts since the February VIX debacle.

The put call skew was falling as the markets rallied into January 2018. Then, February happened. Slope rose and stayed that way. Recently, slope has increased to almost year highs. Slope or skew as described below, measures the relative level of lower strike implied volatility vs high strikes. When investors start to buy more out-of-the-money puts, the implied volatility rises and the slope goes up.

It is tough to predict the future market based on skew, but since February the old saying 'Wall Street climbs a wall of worry' (with expensive puts a proxy for worry) has been cogent.

Implied Volatility Surface

An implied volatility surface can be described as a 3-dimensional surface where the independent variables are time to expiration, and option delta and the dependent variable is implied volatility.  To illustrate an implied volatility surface, we have developed a 2-dimensional graph that displays all three axes in the figure below.  Summary information about this surface gives the trader a macro view of the implied volatilities for each option chain. ORATS takes a snapshot of all options on all symbols approximately 10 minutes before the close of trading. Options markets from this time are often of higher quality than at the close.

ORATS measures the surface using the following summary characteristics: at-the-money volatility, strike slope, derivative, and earnings effect.

The “Smile”

At-the-money volatility is the implied volatility at the 50 delta call and put, or in other words, at the straddle.  Strike Slope is a measure of the amount that implied volatility changes for every increase of 10 call delta points within the intra-month skew.  It measures how lopsided the 'smile' or 'smirk' is.  The derivative is a measure of the rate at which the strike slope changes for every increase of 10 call delta points within the intra-month skew.  It measures the curvature of the intra-month skew or 'smile.' We chose just two parameters to describe the skew to get a reasonable fit for the fewest assumptions.

Using this method of describing the skew has the additional benefit of producing accurate at-the-money volatility readings important for summarizing the term structure.

 

Download an explanation about skew and ORATS data HERE

Watch a video about skew here: API analyze skew in ETFs: http://screencast-o-matic.com/watch/cD1UoCittf

Watch these other videos: Option Markets and Analytics https://screencast-o-matic.com/watch/cblUoE2Wgu

 

Download our Excel API access worksheet here https://api.orats.com/downloads/excel

Sign up for a key with a 30-day money back guarantee here https://orats.com/subscribe (choose retail or pro).

Disclaimer:

The opinions and ideas presented herein are for informational and educational purposes only and should not be construed to represent trading or investment advice tailored to your investment objectives. You should not rely solely on any content herein and we strongly encourage you to discuss any trades or investments with your broker or investment adviser, prior to execution. None of the information contained herein constitutes a recommendation that any particular security, portfolio, transaction, or investment strategy is suitable for any specific person. Option trading and investing involves risk and is not suitable for all investors.

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The opinions and ideas presented herein are for informational and educational purposes only and should not be construed to represent trading or investment advice tailored to your investment objectives. You should not rely solely on any content herein and we strongly encourage you to discuss any trades or investments with your broker or investment adviser, prior to execution. None of the information contained herein constitutes a recommendation that any particular security, portfolio, transaction, or investment strategy is suitable for any specific person. Option trading and investing involves risk and is not suitable for all investors. For more information please see our disclaimer.
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