Glossary term
Volatility Skew
Volatility skew describes how implied volatility differs across option strike prices or expirations for the same underlying asset.
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What Is Volatility Skew?
Volatility skew describes how implied volatility differs across option strike prices or expirations for the same underlying asset. In a perfectly flat options market, similar options would imply similar volatility. In real markets, implied volatility often changes depending on strike price, moneyness, and expiration.
The skew reflects supply, demand, hedging pressure, perceived crash risk, event risk, and investor preferences. It is especially important in index, equity, commodity, and currency options because it affects option prices even when the underlying asset price has not changed.
Key Takeaways
- Volatility skew compares implied volatility across strikes or expirations.
- Equity index puts often trade with higher implied volatility than comparable calls.
- Skew can affect the cost of hedging, spreads, collars, and risk reversals.
- A change in skew can move option prices even if the underlying price is stable.
What Skew Can Signal
Skew often shows where traders are willing to pay more for protection or upside. In many equity markets, downside put options can carry higher implied volatility because investors want protection against sharp declines. In other markets, upside calls may become expensive when demand for upside exposure is unusually strong.
Skew Pattern | Possible Interpretation |
|---|---|
Higher put implied volatility | Demand for downside protection or concern about sharp declines. |
Higher call implied volatility | Demand for upside exposure or fear of a sharp rally. |
Steeper short-term skew | Near-term event or stress may be affecting hedging demand. |
Flattening skew | Protection demand may be easing or relative option pricing may be normalizing. |
How It Affects Strategies
Skew can make one side of an options structure more expensive than another. A protective put may cost more than a simple volatility estimate suggests. A collar may look attractive because selling a call helps fund a relatively expensive put. A risk reversal may reveal whether the market is pricing more fear of downside or upside.
Skew also affects comparisons across options. Two options with the same underlying and expiration can have different implied volatilities because the market does not view all price moves as equally likely or equally valuable to hedge.
Reading Skew Carefully
Volatility skew is not a standalone forecast. It can reflect hedging flows, liquidity, structural demand, or temporary event risk rather than a clean prediction. A steep skew may signal fear, but it may also reflect investors repeatedly buying protection for reasons unrelated to a specific forecast.
For option buyers and sellers, skew can change which structure looks attractive. A strategy that appears balanced by strike distance may not be balanced by price if one side of the market carries much higher implied volatility.
The Bottom Line
Volatility skew shows that options markets price different outcomes differently. Understanding skew helps explain why puts, calls, spreads, collars, and risk reversals can change value in ways that are not captured by the underlying price alone.