Why Some Markets Lack Volatility Smiles

Summary

The document discusses why an implied volatility smile may be absent or not observable in some markets. Where options are not actively quoted, or only at-the-money contracts trade infrequently, there may be too little market information to construct a reliable volatility curve across strikes. The absence of a smile can therefore reflect limited option-market activity rather than a particular shape of volatility expectations.

For a one-off request to price an out-of-the-money option, a market maker might start from at-the-money implied volatility and add an adjustment for views about realized volatility and hedging or trading friction. Such a quote is not necessarily derived from a well-established smile. The discussion also gives the VIX options as an example with a concave implied-volatility shape. It offers no broad market survey or supporting data, so it illustrates possible cases rather than establishing which markets currently lack smiles.

Key ideas

• A volatility smile requires option prices across multiple strikes to be observable.
• Markets without active option trading may not provide enough prices to infer a smile.
• When only at-the-money options trade, bespoke strike quotes may use at-the-money volatility plus adjustments.
• Such adjustments can reflect expected realized volatility and hedging or trading costs.
• The document cites VIX options as having a concave implied-volatility shape.

Tags

# What are some markets that don't have volatility smiles and why don't they?


# What are some markets that don't have volatility smiles and why don't they?












I have read that volatility smiles didn't show up for equity options until 1987. Can some one give me an example(s) of what markets now still don't have volatility smiles and what an explanation for them not having equity smiles would be? thanks

## Answer by Larasing (score 3, accepted)

https://quant.stackexchange.com/a/25446

There are tons of market where vol smile doesn't exist - either because no one makes a market on the call/put options (private equity, physical real estate comes to mind) or only the ATM option gets traded infrequently. You can't have volatility smile without a vol market.

On the other hand (and maybe more relevant to what you are trying to get at), if only ATM option market exists for the underlying asset, and someone wants a bespoke/one-off price on a strike other than ATM, then you can also call transactions like this "not priced off of a vol smile". Lets say you want to buy effectively a 25 delta call (keep in mind you are unlikely to have priced delta precisely). Market maker could price this at ATM vol, and tag on an "extra" which expresses his views on what realized vol + friction cost to trade this look like, so that he could hedge himself, and still satisfy your demand as a client.

## Answer by alexa (score 1)

https://quant.stackexchange.com/a/63672

The VIX, has a concave shape for its option's Implied volatility.

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.