Implied Volatility (IV)
ES: Volatilidad Implícita (IV) PT: Volatilidade Implícita
The move the market has priced into an option: what it actually measures, how to read it with IV Rank, and why it decides whether to buy or sell premium.
What Is Implied Volatility?
Implied volatility is the future volatility the market has priced into an option, expressed as an annualised percentage. It is not observed directly, nor calculated from the past: it is solved for. In a pricing model such as Black-Scholes you know the underlying price, the strike, the time to expiration and the risk-free rate; the only unknown left is volatility. Feed in the price the option actually trades at and solve backwards, and the number that comes out is IV. That is why IV is not a model prediction but the market’s collective opinion translated into a percentage. When a stock’s IV is 40%, the market is saying it expects that stock to move — in either direction — around 40% annualised over the life of the option.
IV Tells You Magnitude, Not Direction
The most common error is reading high IV as a bullish or bearish signal. IV is directionally neutral: it measures how much price is expected to move, not which way. Its practical use is that it translates directly into an expected range. The one-standard-deviation (1σ) move for a given horizon is approximated by Price × IV × √(DTE/365). With SPY at $500 and IV of 20% over 30 days: 500 × 0.20 × √(30/365) = $28.7. In other words, the market assigns roughly a 68% probability that SPY finishes within ±$28.7 in 30 days, and 32% that it breaks out above or below. For the expected daily move, use IV / √252: an IV of 20% implies a typical move of around 1.26% per session.
IV Rank and IV Percentile: Absolute IV Tells You Nothing
An IV of 45% is neither "high" nor "low" on its own: it is enormous for a regulated utility and tiny for a small biotech. What matters is where that IV sits relative to its own history, and two metrics exist for exactly that. IV Rank places current IV within the past year’s range: (current IV − 52-week low) / (52-week high − 52-week low) × 100. If IV has oscillated between 20% and 60% and today sits at 40%, IV Rank is 50. IV Percentile answers a different question: what share of sessions over the past year closed with IV below today’s. Both read from 0 to 100, but IV Percentile is more robust when there has been an isolated spike: a single panic day inflates the annual high and depresses IV Rank for the rest of the year without IV actually being low.
IV Is Not a Single Number: Skew and Surface
Talking about "AAPL’s IV" is a simplification. Every strike and every expiration has its own implied volatility, and together they form the volatility surface. In equities, out-of-the-money puts systematically trade at higher IV than equivalent calls: that is skew, and it reflects that investors pay more to protect against a fall than to participate in a rally, because declines are faster and more correlated than advances. Along the time axis, the term structure is usually in contango — distant expirations carrying more IV than near ones — in calm markets, and inverts into backwardation when there is immediate panic. When trading any multi-leg structure, what matters is not the average IV but the IV of each specific strike you buy and sell.
Using IV to Choose a Structure
IV is what decides whether to be a buyer or a seller of premium, and it is the reason two traders with the same directional view should open different positions. With high IV Rank (≥50) premium is expensive: this favours selling, negative-vega structures — credit spreads, iron condors, cash-secured puts, covered calls — which profit if volatility compresses back toward its mean. With low IV Rank (≤25) premium is cheap: this favours buying, positive-vega structures — debit spreads, calendars, diagonals, long straddles — which profit if volatility expands. Ignoring this produces the classic error of buying calls right before earnings: you get the direction right, the stock rises, and you still lose money because IV collapses the moment the news is out.
IV, VIX and Realised Volatility
The VIX is the 30-day implied volatility of the S&P 500, calculated by Cboe from a wide basket of SPX options: not by inverting Black-Scholes on a single strike, but through a variance-swap replication that integrates the whole chain. That is why it is called the "fear index": it rises when demand for protection spikes. Realised volatility is a different thing: it measures what price actually did, calculated from past returns. Comparing the two is one of the most useful readings in the options market, because IV persistently trades above the volatility that subsequently materialises. That gap is known as the variance risk premium, and it is the structural reason why systematically selling premium with defined risk has positive expectancy — provided you survive the tails.
The Four Volatility Metrics Worth Keeping Straight
| Metric | What it measures | Where it comes from | How it is used |
|---|---|---|---|
| The future move the market expects | Solved for from the option’s market price | Judging whether premium is expensive or cheap | |
| The move price has already made | Standard deviation of past returns | Testing whether the IV was justified | |
| Where IV sits within its annual range | (IV − 52w low) / (52w high − 52w low) × 100 | Deciding whether to buy or sell premium | |
| 30-day IV of the S&P 500 | Variance-swap replication across the SPX chain | Reading the risk regime of the overall market |