Estimating Vol....

Discussion in 'Options' started by J-Law, Jan 31, 2012.

  1. J-Law


    Working toward bringing my option working knowledge up to snuff. Took two semesters of commodity options classes a couple years back. It gave me basis to build on with greeks & alike. But, just didn't really walk away with a strong sense of how to forecast IV for trading purposes.

    In Sinclair's first chapters he goes into great depth & discussing a few models to guessimate vol. Close to close, Parkinson (realized) GARCH, G-K, Rogers-Satchell, & Yang-Zhang. As well as the strengths & weakness of each (still grasping). I've seen a few excel sheets online.( comes to mind. But, never with all these estimates included.

    Maybe a rudimentary question, when one is trying to forecast for a trade or even the average market maker, which is the more widely/generally used estimate?
    Because if I get this right, it would ultimately be what one would feed into their
    volatility cone to try & grasp distribution.


  2. j-law - The IV in the option price formula is a black hole. That's the reason it is called implied. No one really knows how to calculate for it.

    The way it is derived is by implication. You "assume" markets are efficient and contain all available information included the volatility.

    The way IV is derived is you take the market option price and then plug all the knowns into the the option pricing formula and back out the implied volatility.

    The logic is that the current market option price is correct because markets are efficient.

    You can guess using historical data what IV might be but...

    When it seems that an options price has changed for no reason then it is said that the IV has changed. Nice out.

    Anyway - don't get to hung up on IV. I think the big thing to appreciate is that IV goes up before a major anticipated event. Once the event occurs and is known then IV falls. Earnings announcements are the classic example here.

    Unless you are doing something fancy the thing to focus on is the price of the underlying asset and what you think it is going to do and then apply delta to forecast options price.