Comparing Option Richness Across Correlated Underlyings

Summary

The question asks how to compare options on two different but correlated assets when their implied volatilities differ and each asset’s implied volatility also differs from its own recent historical volatility. It contrasts a relative-volatility view between the assets with a view based on each asset’s implied-to-realized volatility ratio, and asks which side of a potential spread trade is appropriate.

The document provides the inputs and the trader’s conflicting interpretations, but no answer, calculation, or trade construction. It therefore illustrates why raw implied volatility and implied-versus-historical comparisons alone do not establish that one option is rich or cheap. A fuller analysis would need to account for comparable option terms, volatility dynamics, the relationship between the underlyings, and the spread’s risk and hedging. The stated correlation and beta are not enough to determine a trade or its sizing.

Key ideas

• Comparing implied volatilities across assets differs from comparing each asset’s implied volatility with its own historical volatility.
• Correlation and beta describe aspects of the relationship between underlyings but do not by themselves identify a profitable options spread.
• The document poses a trade-selection question but supplies no resolution or evidence that either option is mispriced.
• A relative-value options analysis needs comparable contracts and a defined approach to hedging and risk.

Tags

# Compare rich / cheap options on 2 underlyings


# Compare rich / cheap options on 2 underlyings












this question can turn out to be very basic but its something that has been bugging me.

Say I want to buy/sell an option on A vs sell/buy an option on B. Facts I know

- A and B are different underlyings but do have some "beta" between them with a correlation of say 65%, the beta is 1.3 on changes ( i.e. change in A = 1.3* change in B)

- IV_A/IV_B = 1.15

- IV_A / HV_A = 1.3 (implied vol is 10% above 20d historical realized vol) and IV_B/ HV_B = 1.1

So my confusion is Looking at 1) and 2) I think I should be buying option on A, vs selling on B Looking at 3) I should be selling option on A, vs buying on B

What should the right trade be?

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