Market Measures

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Skew and Implied Volatility

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 measures the outlier risk and can represent the current tail risk. We can construct "Skew Rank" like IV Rank, as the ratio of the difference between current skew and 1 year low and 1 year skew range. Like IV Rank, Skew Rank has the potential to determine the current situation for extremes. The question is, which one is more powerful?

Our study on SPY showed that for both 2.5 delta and 5 delta puts, their average P/L is higher if being sold when IVR is larger than 50 compared to the average P/L when Skew Rank is larger than 50.

We can conclude that IV Rank is a more powerful index than the constructed Skew Rank when determining the trade entry for far OTM options.

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