Link Between Realized and Implied Volatilities

A recent post by Rebecca Ungarino of CNBC pointed out that the current realized volatility is low. It also said that the low realized volatility is influencing the implied volatility through volatility selling.

“We have a historically low level of realized volatility in the markets. In fact, Q1 was the lowest realized volatility on record since 1965,” Weinig said.

1M and 3M Realized (blue) and Implied (red) volatilities. Source: Yahoo finance

Furthermore, the low levels of actual volatility are easily flowing into the implied volatility measured by the VIX. This is due to what Weinig calls the “excessive” number of volatility sellers in the market, with assets pouring in to ETFs like the XIV, which reflects a short volatility position and has surged over 70 percent this year. Another fund, the SVXY, has risen by nearly the same amount.

“As long as there’s that realized premium from implied to realized volatility, you are going to have vol sellers in the market, and that’s creating very low levels of VIX,” he said. Read more

However, as discussed earlier in the posts entitled Why is Volatility so Low? and Why Is VIX So Low and What To Do About It , we think that there are multiple causes for the low volatility environment, not just volatility selling. These can be

• Realized volatility is low, resulting in a low implied volatility,
• Inflow into equities is increasing,
• Popularity of shorting volatility through VIX ETNs is rising,
• Investors are shorting volatility through options,
• Market makers and sell-side institutions are delta hedging their inventories.

Let us know what you think.

ByMarketNews