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Tuesday, July 07, 2009


more on option premium skew

following on earlier comments -- jason goepfert with a review of credit suisse's index measuring skew.

CSFB created a new index that compares the premiums in calls versus puts, digging a layer deeper than the VIX does. When the index was first unveiled, its movements didn't make a lot of sense when compared to the VIX, but recently an article on Bloomberg highlighted one potential use for it - identifying times when the VIX is masking underlying sentiment.

We're seeing that now.

There have been four other times during a bear market when we've seen a divergence like this, when the VIX is at a multi-month low, but the CSFB Fear Index is at a multi-month high. Over the next three months following those four instances, the S&P averaged -9.2%, and with a risk that averaged more than 6 times greater than the average reward.


Investors are spending the most since August 2008 to protect against a 10 percent decline in the Standard & Poor’s 500 Index versus wagers on an advance, according to data compiled by Bloomberg. That’s one month prior to New York-based Lehman’s bankruptcy. The premium on so-called put contracts increased even after the Chicago Board Options Exchange Volatility Index, a gauge of U.S. options prices known as the VIX, fell 40 percent last quarter.

... The widening gap between bullish and bearish options belies the VIX’s retreat to below its level when Lehman collapsed and comes as U.S. companies prepare to report second-quarter earnings this week. ...

Traders are more inclined to buy insurance against stock market losses than they are to speculate on more gains, options trading shows. The implied volatility for contracts that lock in profits if the S&P 500 falls at least 10 percent in three months was 29.03 on June 29, according to data compiled by Bloomberg.

That compares with 20.20 for “call options” that pay off if the index rises at least 10 percent in the same period.

The difference between the prices of the two contracts, known as the implied volatility “skew,” steepened to 44 percent, the biggest premium since Aug. 28. The skew between contracts expiring in six months reached a nine-month high.

worth noting that this measure of skew -- comparing the difference in the implied volatility of out-of-the-money calls to like puts -- is different than downside skew, which compares the difference in implied volatility of out-of-the-money puts to deep-out-of-the-money puts. both types of skew, however, are showing the same thing -- the options market is paying premium to bet on a fall.

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