S&P 500 Options Actually Look Pretty Cheap From This Perspective
(Bloomberg) -- In some sense, buying options on the S&P 500 Index has rarely been this cheap.
While the VIX has surged to levels not seen since 2015, the implied volatility of the U.S. equity benchmark has been trading below its realized volatility all year, the second-longest stretch of days in data going back to 2011. That’s a far cry from the norm: about 65 percent of the time, implied volatility -- a measure of traders’ expectations for market swings in the future -- is higher than realized volatility, or actual past moves. The spread between the two represents what’s usually a premium that investors pay for insurance.
Implied volatility tends to track realized volatility closely as the near future is often similar to the recent past. The relationship, of course, turns upside down whenever something big happens, providing options traders with an opportunity to profit from the ensuing dislocation. The S&P 500’s 30-day implied volatility has more than doubled this year, but realized volatility has more than quadrupled.
At its extreme point, the implied volatility discount to realized (applying a one-month lag to realized data to compare equivalent time frames) has only been wider twice in the past seven years: in the summer of 2011 when the U.S. lost its AAA rating at S&P, and in 2015 when China devalued the yuan. Both events sent the VIX surging and triggered slumps in global stocks.
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