Skew
IV difference across strikes
What is Skew?
Skew Volatility skew is the pattern where implied volatility varies across different strike prices on the same expiration. The most common skew pattern in equity options is the "put skew" — out-of-the-money puts trade at higher IV than equivalently-OTM calls, reflecting the market's pricing of crash-risk premium. Skew exists because realized return distributions on equities are not normal. Sharp downside moves happen far more often than the standard log-normal distribution predicts (the "fat left tail"). Options market makers price this asymmetric risk into OTM puts, creating the negative skew that's been a permanent feature of equity index options since the 1987 crash. The shape of the skew curve carries information. A steep negative skew indicates the market is pricing in elevated crash risk. A flat or inverted skew (puts cheaper than calls, sometimes called "reverse skew") is rare in equity indices but common in commodities like wheat or natural gas where supply shocks drive upside risk. Skew metrics commonly tracked: - **25-delta skew**: difference between 25-delta put IV and 25-delta call IV. The most-watched single skew measure for SPX. - **Skew slope**: how IV changes per unit of moneyness. Steeper skew = more crash premium. - **Volatility smile**: when both OTM puts AND OTM calls trade at elevated IV vs ATM (curved smile shape). Common on single stocks before binary events. Trading skew is a sophisticated approach. Risk reversals (long call, short put at equivalent deltas) take a direct view on skew shape. When skew is steep, risk reversals are cheap; when skew is flat, they're expensive. For directional traders, skew has a practical implication: buying OTM puts is structurally expensive because of the put-skew premium. Buying OTM calls is structurally cheaper. This asymmetry helps explain why selling cash-secured puts (collecting the put-skew premium) tends to outperform selling cash-secured calls on equity indices.
Complete Definition
Volatility skew is the pattern where implied volatility varies across different strike prices on the same expiration. The most common skew pattern in equity options is the "put skew" — out-of-the-money puts trade at higher IV than equivalently-OTM calls, reflecting the market's pricing of crash-risk premium. Skew exists because realized return distributions on equities are not normal. Sharp downside moves happen far more often than the standard log-normal distribution predicts (the "fat left tail"). Options market makers price this asymmetric risk into OTM puts, creating the negative skew that's been a permanent feature of equity index options since the 1987 crash. The shape of the skew curve carries information. A steep negative skew indicates the market is pricing in elevated crash risk. A flat or inverted skew (puts cheaper than calls, sometimes called "reverse skew") is rare in equity indices but common in commodities like wheat or natural gas where supply shocks drive upside risk. Skew metrics commonly tracked: - **25-delta skew**: difference between 25-delta put IV and 25-delta call IV. The most-watched single skew measure for SPX. - **Skew slope**: how IV changes per unit of moneyness. Steeper skew = more crash premium. - **Volatility smile**: when both OTM puts AND OTM calls trade at elevated IV vs ATM (curved smile shape). Common on single stocks before binary events. Trading skew is a sophisticated approach. Risk reversals (long call, short put at equivalent deltas) take a direct view on skew shape. When skew is steep, risk reversals are cheap; when skew is flat, they're expensive. For directional traders, skew has a practical implication: buying OTM puts is structurally expensive because of the put-skew premium. Buying OTM calls is structurally cheaper. This asymmetry helps explain why selling cash-secured puts (collecting the put-skew premium) tends to outperform selling cash-secured calls on equity indices.
Example
SPX 25-delta put trading at 22% IV, 25-delta call trading at 14% IV. Skew = 8 vol points. This is a typical SPX skew level. During the August 2024 yen unwind, this skew widened to 14 vol points as crash-risk premium spiked.
Related Terms
Frequently Asked Questions
What is volatility skew?
Volatility skew is the pattern where implied volatility varies across strikes on the same expiration. In equity options, OTM puts typically trade at higher IV than equivalent OTM calls — the 'put skew' — reflecting the market's pricing of crash-risk premium.
Why do puts cost more than calls?
The volatility skew. Markets price asymmetric crash risk into OTM puts. Equity downside happens faster than upside (the fat-left-tail of return distributions), so puts carry a structural premium. This has been a permanent feature of equity index options since 1987.
How do I trade volatility skew?
Risk reversals (long call, short put at equivalent deltas) take a direct view on skew shape. When skew is steep, risk reversals are cheap; when skew flattens, they appreciate. Many vol-relative-value funds run skew-trading books as a core strategy.
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