Options 05 · Options
Implied Volatility & IV Crush
Why your call lost money on a green day
Implied volatility is the market's expectation of how much a stock will move, priced into every contract on the board. It is not a forecast of direction. It is a forecast of magnitude, and you pay for it whether you wanted it or not.
When IV rises, every option on that stock gets more expensive — calls and puts together, because both benefit from a wider range of outcomes. When IV falls, every option gets cheaper, in exactly the same indiscriminate way.
IV rising
- Options get more expensive across the board
- Good if you already hold them
- Bad if you are about to buy
- Typically: before earnings, into an event, during a selloff
IV falling
- Options get cheaper across the board
- Bad if you already hold them
- Good if you are about to buy
- Typically: immediately after the event resolves
The question this module exists to answer
The stock went up 3% after earnings, exactly as I predicted. Why is my call down 25%?
Because before the report, nobody knew what the number would be. That uncertainty was priced into every contract — implied volatility was elevated, and the options were expensive precisely because a large move was possible in either direction.
The moment the report is out, the uncertainty is gone. The event that justified the high price has happened. Implied volatility collapses within seconds of the release, every contract reprices downward, and a 3% move in your favour is nowhere near enough to cover what the volatility component just cost you.
Interactive
What your contract is worth
Buy one contract, then move the world around it. The price is computed the way the market computes it — so time and volatility do to this contract exactly what they do to a real one.
You bought at with 14 days left and IV at 35%. Everything below is measured against that.
worth today worth at expiration
High IV and low IV are not good and bad
They are expensive and cheap. High implied volatility means you are paying up for a move the market already expects — so the stock has to exceed the expectation, not merely meet it. Low implied volatility means options are cheap, but often because the market sees no reason for the stock to move, and you still need it to.
- Buying into elevated IV means you need a bigger move than the market is already pricing, and you carry crush risk when the event resolves.
- Buying into low IV means a cheaper contract, less to lose from a volatility drop, and a rise in IV working in your favour.
- The same contract at the same strike can be a good trade or a bad one depending on nothing but this.
What to check before you buy
Is IV elevated relative to this stock's own normal?
The absolute number means little. A 35% IV is high on a utility and low on a small-cap biotech. Compare a stock to itself.
Is there an event before expiration?
Earnings, a product launch, a scheduled economic release. If so, IV is elevated for a reason, and it will fall when the reason resolves.
Does my thesis need a bigger move than the market expects?
If the answer is no, you are paying for movement you do not need.
What happens to this position if IV drops ten points?
If that alone would put you underwater, size accordingly or wait.