Yes, volatility and stock price are the two main factors that affect an option price. I suggest you pick up a book on options and read up on option pricing theory.
Implied volatility is the expected future volatility. Historical volatility is the statistical volatility that was realized over a certain period of time in the past. There's no direct relationship between the two.
Thank you ,if two stock prices are highly correlated and their historicla volatility ratio varys around a fixed number ,I use ATR to measure the hiscorical volatility ,how to trade their options?
Hi MTE, I'm sorry but it's wrong. Implied volatility is no expected future volatility. It's just a number extracted from a model, which is based on a lot of strong assumptions. How would you explain option smile this way? Different expected future volatilities at the same time for the same underlying? Volatility is calculate with underlying standard deviation. So at the same time different expected future standard deviations for the same underlying if you just change the strike? Are you sure?
You really have to nitpick, don't you!? For the purpose of this discussion (i.e. to answer the OP question) my answer is approprirate. What's the point of complicating things when the OP clearly doesn't understand the basic concepts yet.
It's not about "complicating things", it's about right and wrong things. If you want to teach basic option concepts or to broadly support newbies, that is a great job, you don't need to invent concepts about a possible "expected future volatility". You want to be clear: implied volty is a number extracted from a model, that's all. The rest is your interpretation. Please be cute to note that my point was as friendly as it was written. PS: Do you really think that "expected future volatility" is a simple concept to hold for the OP who"clearly doesn't understand the basic concepts yet"?
The most useful and accurate way to look at implied volatility is this: it is the price of an option. It is the best and in fact the only way of measuring, comparing and expressing the "cheapness" or "expensiveness" of an option. The actual price of the option tells you how many dollars and cents it will cost you. But it does not tell you whether that option is cheaper or more expensive than it was a week ago - not in any real sense. Time passes, the underlying stock or futures move, and the only constant that measures the supply and demand for that option is implied volatility. The only way to compare the cheapness or expensiveness of that option today with a week ago when the underlying was way lower and there was more time remaining is the implied volatility. The only way of comparing the cheapness or expensiveness of an option with the option at the adjacent strike is implied volatility. This is not really difficult but it's a little hard to explain without visual aids. As you study it though, keep the above in mind and you'll get it. Does IV increase when actual IV increases? Generally yes, but not necessarily. When the S&P 500 goes up and actual volatility increases, implied volatility will still fall. MAW thinks I'm wrong on this and has promised to find some examples and post the charts - but I'm still waiting!
Noob alert... I am trying to understand options (I just started reading about options a few weeks ago) I try and picture the different stategies but I need to see it on a graph to make sense out of it. Is there any free software or web tools that I can put the different legs on a chart and see where the profit or loss it?
Hi Dmo, No I don't think you were wrong about that. What I think is that relationship between asset and volatility is much more complicated. That's my point (and now yours ".... Generally yes, but not necessarily..." ). What I offered was to friendly check out my old PC's to try to find some old datas and pictures of implied volatility surfaces in early 2000's to show here that today index smirk looked sometimes like a smile. What I wrote was about the fact that you mention Vix as a proxy for volatility behaviour, and my point was that volatility for a 2 years option will behave different way as for a 1 month one, hence, Vix that is focused on short term option volatility can't grab the whole motion. It doesn't mean it's useless. But that's why I don't look at Vix. It's not a good information for the understanding of my positions. So, back to implied volatility, I agree your point about implied volatility as a "measure of cheapness or expensiveness" an option, time effect is off.