Modeling future IV

Discussion in 'Options' started by schreibdave, Mar 11, 2009.

  1. I am trying to figure out how to model future IV on OTM credit spreads.

    As background, I am working on OTM credit spreads on liquid ETFs where I anchor my short leg just beyond a point of support or resistance. If you have seen any of the webcasts by Steve Lentz at Discover Options, it's the primary strategy that he teaches.

    I am using a tech analysis program called Edutrader which also models option positions. Problem is, in order to model P/L at a particular price on a given date, the program relies on me to input my expectation for IV on that date/price point.

    So, my question is - are there rules of thumb that I can apply here? For example, as an option approaches expiration can you say that IV generally moves one way or the other? Likewise, as the underlying moves up/down can you generally say that IV will trend in a particular direction?

    I am looking into using Optionvue 6 as my option analysis software because they are supposed to be very good at modeling future P/L but I have not yet gotten a good explanation from them on exactly how the program does that.

    Would appreciate any suggestions
  2. Hi Steve
  3. Not clear on what you're after - are you asking how guess at future IV, or are you asking how to model P/L under a wide range of IVs?
  4. I am trying to figure out how to estimate the future IV.
  5. So is everyone else.

    No software is going to give you the answer.

  6. I can accept that no software is goingto give you the answer, and that it will be whatever the market decides it will be.

    But having said that, are there any suggestions out there for how I might try to form my own opinion about where IV might go in the future?
  7. Sure. You can assume "tomorrow" will look a lot like "today". Most of the time that'll actually even be correct. Or you can look at long term historical IV norms and decide whether the current IV is far enough away to warrant a reversion. Or you can come up with an FA/macro view of the market, generate a "fair" value for the market, and when the actual market diverges tremendously from that, assume that volatility will increase.

    There are a million ways to skin this cat.
  8. Grinder


    Trying to model something that is uncertain will just end up a guestimation, that will always be the case.

    Consider using something like hoadleys tool in conjuction with excel to devise a multitude of possible scenarios. You could then imput the IV based on changes in price, still guessing but a more structured guess of IV depending on price.

    Makes sense in my head, but probably have'nt explained it all that well.
  9. heech


    The one really specific question I saw was whether IV changes closer to expiration date.... I'd first point out that you could very easily do back-testing here, and look at historical option pricing, and plot IV versus days-until-expiration.

    I'm guessing we're all familiar with the IV smile based on strike, but I personally don't know how IV looks versus days until expiration.

    I'd guess that it's a minor effect compared to everything else, however. After all, importance of IV to option price drops exponentially the closer we get to expiration.
  10. spindr0


    My concern would be what will I do if the IV changes (add, adjust, close?) rather than trying to guess what the future may bring.
    #10     Mar 11, 2009