Realized Vs Implied Volatility

Realized vs Implied Volatility is the comparison between the historical price fluctuations of an asset and the market expectation of future volatility as reflected in option prices. Implied volatility is derived from the price of an option using a model like Black-Scholes and represents the market consensus on how much the asset will move.

Realized volatility is the actual standard deviation of returns over a past period. When implied volatility is significantly higher than realized volatility, options are generally considered expensive, providing an opportunity for sellers.

Conversely, when implied volatility is lower, options are considered cheap, providing an opportunity for buyers. This comparison is the cornerstone of volatility trading and risk management.

It highlights the gap between market sentiment and historical reality. Traders constantly monitor this spread to identify mispriced options.