Potential return on capital is a metric that tells traders how much opportunity is available in a particular trade. Since implied volatility is also a measure of opportunity, how are the two metrics correlated?Study
- SPY, 2005-present
- 45 DTE, 16 delta strangles (puts and calls)
- Recorded the potential return on capital (credit divided by buying power)
- Recorded VIX
We find that implied volatility and return on capital are highly correlated and you can get around 2.5x as much ROC in a high IV environment compared to a low IV environment.