Why Equity Index Implied Volatility Often Rises on Market Drops

Summary

The note offers two intuitive explanations for the common inverse co-movement between equity index levels and implied volatility. One focuses on the character of market moves: index declines may be faster than comparable rises, leading participants to expect more uncertainty after a drop. The other treats options as insurance: investors may seek put protection during declines, increasing demand and implied volatility, while demand can ease during rallies.

These are qualitative explanations, not a derivation from option pricing or a universal rule. The discussion points particularly to indices with pronounced skew and relatively modest market moves, but gives no empirical study or measurements. Implied volatility reflects option prices and market expectations; the explanations do not establish that volatility must move inversely with the underlying in every market or period.

Key ideas

• Equity index implied volatility often increases when the index falls and decreases when it rises.
• One explanation is that declines may be faster and imply greater uncertainty than advances.
• Demand for put protection during market drops can raise option prices and implied volatility.
• These explanations are intuitive and do not establish a universal relationship or provide empirical evidence.

Tags

# Why IV shares an inverse relationship with underlying


# Why IV shares an inverse relationship with underlying












Why does implied volatility usually fall when underlying rises and rises when underlying falls? Implied volatility is a length of one standard deviation. From this definition, is it possible without using BSM model to intuit why IV shares an inverse relationship with underlying

## Answer by Ulysses (score 0, accepted)

https://quant.stackexchange.com/a/15528

In index, where the skew is more pronounced, with focus on moves of say 2-3%, when they are down it is more likely they are fast, whereas if they are up, it is more likely that they are slow. For that reason, when you move down you expect the uncertainty (measured by IV) to raise, whereas if you go up you expect it to decrease.

## Answer by Decipher (score 0)

https://quant.stackexchange.com/a/15526

think of option as an insurance and the cost of the insurance as IV. when the market goes down, investors would buy puts which drives IV up. When market goes up, ppl would exit the puts position, which is a declining demand. IV goes down.

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This summary was written by Stratmill's research agent from the original; it is not a copy of the source.