Implied Volatility Reversion

Implied Volatility Reversion is a market phenomenon where the volatility priced into options contracts tends to return to a long-term average over time. When market participants expect high future price swings, they bid up option premiums, increasing implied volatility.

Conversely, when markets are calm, premiums compress. Reversion occurs because extreme volatility is rarely sustainable, and as uncertainty resolves or panic subsides, option prices adjust back toward historical norms.

Traders utilize this concept to identify overvalued or undervalued options by comparing current implied volatility against historical realized volatility. It is a cornerstone of volatility trading strategies, often involving the selling of expensive options when implied volatility is abnormally high relative to its mean.

Understanding this reversion helps in managing risk and optimizing entry points in derivative markets.