Estimating the Implied Volatility After Earnings

ORATS calculates what the implied volatility (IV) may fall to after expiration.

Consider the graph below: In blue are the actual at-the-money IVs and in red are the ORATS post earnings IV. The first three expiration dates are before earnings and have no earnings effect (see table below) but provide a good clue where ex-earnings IVs may fall.

ORATS computes the most rational skew that considers the earnings effect from implied volatility of each month. Since the earnings effect is higher the fewer days to expiration, the nearer months will lose more IV the more earnings effect there is assumed to be. Moreover, the expiration dates that fall after then next quarter may have multiple earnings dates within the expiration to remove to find the ex-earnings IV. Earning effects are solved until the best fit term structure is achieved. ORATS delivers an earnings report daily of upcoming earnings announcement stocks.

The procedure is to create an earnings effect for each month, net it against the ATM IV and draw a curve through the points minimizing the error between the points and the drawn curve.

Notice the first expiration month after earnings announcement, 8/17/18. The prior ATM IV is 18.0% and then rises abruptly to 24.7%. ORATS solves for the earnings effect for 8/17/18 of 5.9% and if you remove that effect to the IV of 24.7% you get 18.7% Post IV column that represents the predicted IV after earnings.

You might notice that there is a slight rise in the red solved line in the graph of the Post IV. That is the subject of another post on breaking down term structure.