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Why Implied Volatility Can Rise Without Option Trading

Article Quant Q&A · Author: CQM
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Summary

The document explains that implied volatility is inferred by applying an option-pricing model in reverse to quoted option prices. In the Black–Scholes framework, a higher quoted option price corresponds to a higher implied volatility, so the displayed volatility can increase even when no contracts trade and open interest stays the same.

For an ETN, the answer suggests that changing option prices on underlying index components may affect the ETN options. The discussion responds to an observed rise in volatility across one contract month despite low volume and unchanged VIX. It offers a plausible explanation, not a demonstrated diagnosis: it gives no pricing data or component analysis to confirm what caused the particular move.

Key ideas

  • Implied volatility is calculated from option prices using an option-pricing model in reverse.
  • A change in quoted prices can change implied volatility without a trade or a change in open interest.
  • Options on an ETN may be affected by price changes in options on its underlying components.
  • The proposed component effect is a possible explanation, not a verified account of the observed move.

Tags

OptionsVolatilityDerivatives pricingMarket microstructure
Full text
# What drives changes in implied volatility on ETFs/ETNs?


# What drives changes in implied volatility on ETFs/ETNs?












I thought implied volatility, as well as the VIX, primarily increase due to increases in the underlying asset's volatility, as well as the options themselves being bid up because more people were buying that usual.

For instance, during an IV crush, usually people are selling the contract heavily. When IV is building, I thought people were buying the contract heavily.

Today, I was watching a spread and noticed a leg was becoming more expensive than predicted, yet the volume was low, the open interest was also low, and the VIX was unchanged. It wasn't just this contract; the entire side of the book for that month's contract had elevated volatility.

I don't understand how this happens. Could someone shed some light on how the IV increases without people bidding things up?

There were no catalyst events coming up, and the underlying asset wasn't a corporation's stock. It was an ETN on an index.

My next clue would be that the IV is based on historical volatility, such as when things start moving in one direction that things can really swing, so the pricing of the contracts were fixed to include this expected demand for their premium. But I could also be way off.

## Answer by Brian B (score 6, accepted)

https://quant.stackexchange.com/a/2866

I'm going to go ahead an assume the spread you were looking at involved exchange traded options. As you presumably know, the actual implied volatility on your screen is a number derived from option prices by running the Black-Scholes model "backwards" from quoted option price to volatility. Higher prices imply higher volatility.

That last statement is the key: the quoted prices can go up, and so the implied volatility can go up, even if nobody trades (so that open interest remains unchanged). It's kind of like the housing market in that the presumed asset value goes up even when nobody trades it.

With an ETN this probably had to do with option prices taking off in one of the underlying components.

Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)

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