Implied vs realized volatility
An option's price is a bet on how much the stock will move. Implied volatility is the move the price assumes; realized volatility is the move the stock has actually made. The gap between them is the closest thing there is to a price tag on options.
Implied volatility
Implied volatility (IV) is read backwards out of option prices: it is the annualized volatility that makes the pricing model give the price the market is paying. It looks forward. An IV of 32% says the market is pricing moves of about 32% a year, or about 2% a day (32% ÷ √252).
Realized volatility
Realized volatility, also called historical volatility (HV), looks back. It is the standard deviation of the stock's daily returns over a window, annualized the same way. Options Meerkat uses the 20-day close-to-close volatility: the daily closing prices of the last 20 sessions, which covers about a month of trading, the same horizon as its 30-day IV.
Comparing the two
The simplest comparison is the ratio:
IV/HV = 30-day implied volatility ÷ 20-day realized volatility
- Above 1: options price in more movement than the stock has been making. Most of the time IV sits a little above HV, since sellers of options want paying for the risk of a jump; a ratio well above 1, 1.3 or more, says premium is rich.
- Below 1: the stock has been moving more than its options price in. Premium is cheap against the recent past, often after a sharp move the market expects to calm down.
An example: a stock with a 30-day IV of 45% that has moved with a realized volatility of 28% has an IV/HV of 1.6. Its options price in daily moves of about 2.8%; it has been moving about 1.8% a day.
Why options get rich
A high ratio usually has a reason. The commonest is a scheduled event inside the next 30 days, an earnings report above all: IV rises before it, since the report can move the stock more than any normal day, and falls right after. A rich IV that is only the earnings date coming is not mispriced; the question is whether the move priced for the report is too large or too small. Without an event, rich premium can mean the market fears something, or that demand for protection has pushed prices up.
What the comparison cannot tell
Realized volatility is the past and implied volatility the future. A low HV after a quiet month is no promise of another quiet month, and selling premium because IV/HV is high is a bet that the next month will look like the last. Look at where the IV stands in its own history too, its IV rank and percentile, before reading the ratio as a signal.
In Options Meerkat
The dashboard's iv/hv column is the ratio for each symbol, and the filter line can find the richest at once: iv/hv>1.3. The detail page's IV history (h) draws the 30-day IV with the 20-day realized volatility under it on the same dates, and its title gives the spread in points. The earn column shows the days to the next earnings report, which explains many of the high ratios. Ask Meerkat, the chat, and it reads both for every name on the list, sets aside those that are only an earnings report coming, and charts the term structure of the one that stands out.