What must be held fixed to isolate IV's contribution between the two post-event states?
Reveal the worked answer
The new spot, remaining time, rate and dividend assumptions.
Only IV differs in that comparison.
Advanced Options · ADV-23 · Core
Volatility crush
How can a favorable stock move lose option value?
What you will learn and prerequisites
- Explain the mechanism in the lesson question.
- Reproduce the worked comparison and recognize its failure case.
Read first: Read a contract and its premium, Rights, obligations and expiration, Defined payoff risk is not margin, Read the whole multi-leg ticket
An event can remove uncertainty priced into options. Afterward IV may decline, although the amount and surface response are not guaranteed. A trader can be right about direction while paying too much for the magnitude and uncertainty.
Separate intrinsic progress from volatility and time repricing.
Understand the mechanism
Vega estimates a small IV effect while Gamma and Theta change the other exposures. A large event move can exceed the accuracy of a fixed-Greek approximation. Full-model repricing still depends on exercise and surface assumptions.
A short-volatility position benefits from the IV component only if adverse movement and execution do not dominate.
Walk through the process
State a directional forecast and a separate volatility forecast. Reprice both jointly and inspect a disappointing move, unchanged price and adverse gap. Do not call high pre-event IV automatically rich.
For a calendar, the two expiries may reprice differently after the event.
Model and implementation boundary
These are complete fictional reading examples, not live opportunities. Terminal identities assume the stated common settlement. Multi-expiry values require a surviving-leg model. Costs, assignment and financing can alter realized outcomes; a mathematical bound alone does not guarantee the same operational loss path.
A worked example
A fictional European call at S=K=100, seven days, IV 60%, r3% and zero yield costs 3.341782. After one day, spot103 with unchanged IV 60% gives 4.872577.
At the same new spot and time but IV 25%, value is 3.354018. Relative to entry the change is +0.012236 per unit. The graph isolates these model states; neither the IV decline nor the stock path is live or guaranteed.
Volatility crush—worked comparison
Vertical: Call model value per unit (USD)
Horizontal: Model state: entry / higher spot / IV reset
1. Fictional example
Read the graph as a data table
| Model state: entry / higher spot / IV reset | Fictional example |
|---|---|
| 1 | 3.34178 |
| 2 | 4.87258 |
| 3 | 3.35402 |
What would invalidate the reading?
The trader checks only directional success and ignores the IV paid. A seller checks only the crush and ignores a jump beyond the collected premium.
Check your understanding
Try the question before revealing its answer. These are reading checks, not trading certification or a site completion record.
What is the critical failure to avoid?
Reveal the worked answer
The trader checks only directional success and ignores the IV paid. A seller checks only the crush and ignores a jump beyond the collected premium.
Explain this risk before treating the example as a decision rule. A correct calculation does not guarantee a favorable market outcome.
Return to the question: How can a favorable stock move lose option value? State the observed facts, the assumptions and the failure condition separately.
Sources, assumptions and downloadable script
External references support definitions and conventions. Worked scenarios and prose are original. No current quotes or dealer inventory are claimed.
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