Dori Levanoni
June 13, 2022
  • Based on the SPX options market, May started with both volatility and skew above normal on the back of disappointing earnings news and anticipated Fed rate increases.
  • Fairly soon after, once the Fed raised rates by the expected 50bp, skew fell back to normal (which is still slightly left-skewed). Volatility fell only slightly, remaining well above normal.
  • The S&P500 continued to fall steadily to May 12th, bounced for a week, then found a bottom on May 20th, rallying into month-end. As the S&P500 stabilized, volatility fell a bit further.
  • Volatility ended the month (Figure 01) modestly above normal. With both volatility and skew at more normal levels, it appears that investors are beginning to recover from some of the recent worry.

The curves in Video 01 and Figure 01 are known as the “risk-neutral distributions” of option market participants, derived from all of the options priced right now.


Video 01

Data used represents the June 2022 maturity.
Sources: CBOE, Datastream, First Quadrant, LLC


Figure 01 - Implied Volatilities of Options

Data used represents the June 2022 maturity.
Sources: CBOE, Datastream, First Quadrant, LLC

These curves may look like expected probability distributions, which reflect the likelihood (y-axis) of each possible outcome (x-axis). Expected probability does plays a role in these curves, but they’re actually a bit more nuanced, because in these curves expected probability is scaled by the market’s preference for each outcome. Preference is a bit like risk aversion, and may change with the environment or circumstance. For example, market participants could become more sensitive to tail risk when they are worried about funding status.

Hence, if a curve changes, it may be that options market participants have changed (1) their expectations as to how the market will move, (2) their preferences for those outcomes, or (3) both their expectations and preferences.

A typical curve for the SPX options market looks relatively “normal” (i.e., bell-curved), but is a little bit asymmetric, with the left side slightly higher than the right side.

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