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Market Measures

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Should We Watch SKEW?

Market Measures

Options involve risk and are not suitable for all investors. Please read Characteristics and Risks of Standardized Options before deciding to invest in options.

The SKEW Index is produced by the Chicago Board Options Exchange (CBOE) and measures traders buying far out-of-the-money (OTM) Puts in the SPX to try to predict outlier moves of 2 and 3 Standard Deviations (SD). All traders pay close attention to the VIX but can the SKEW help us find points of entry for short premium trades?

A graph of the SKEW Index was displayed. When the SKEW is trading on its low end it is believed that there is a low probability of an outlier move and when the SKEW is trading on its high end there is a high probability of an outlier move. A table displayed SKEW readings from 120 to 145 and listed the perceived probabilities of 2 and 3 SD moves. The table showed that as the SKEW Index rises in price, the percentages of a 2 and 3 SD move increases. A SKEW reading at 120 has a 7.7% chance of a 2 SD market move, at 145, the percentages rise to 14.5%.

Tom explained, “If you are presented with a situation in life, business or trading where they present you with an opportunity. Do you take it? Ninety percent of the people do not and run from it because they are consumed with fear, as opposed to being consumed with opportunity. The key to any opportunity is staying small."

Our study was conducted in the SPY (S&P 500 ETF) using data from 2005 to the present. We chose the option expiration cycle closest to 45 Days To Expiration (DTE) and sold Puts with a 30 Delta. All trades were managed at 50% of max profit if possible. We tested for all environments, filtered for instances when the SKEW was above 125 and above 135.

A table showed that since 2005 the percentage of days that the SKEW index has been above 125 was only 30% of the time and above 135 only 5% of the time. A table of the results was displayed. The table included the win rate, average P/L, average loss and largest loss. The table showed that waiting to sell the SPY 30 Delta Puts when SKEW was above 125 and 135 produced greater profits and win rates. More interestingly it actually lowered our average and largest losses as well. As Tom noted, “Waiting for high SKEW reduced your Standard Deviation of risk”.

For more information on SKEW see:

Watch this segment of Market Measures with Tom Sosnoff and Tony Battista for the valuable takeaways and the results of our study on using the SKEW Index to find short premium opportunities in OTM options.

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