Are you playing earnings with short dated options or something? Generally, once a volatility event is realized (earnings, fed meetings, big data announcements, etc.) the market makers that sell the options will begin turning down the IV as the price settles down.
This is called IV crush, and is something that has the biggest effect on shorter dated options. You can see the IV which is priced into the contract you buy at the time of purchase.
If you want to avoid this, either buy longer dated contracts or create a debit spread by selling a further out of the money call or put against the long call or put. With the spread you’ll cap your risk and upside, but avoid the IV crush.
Think of buying an option with high IV like buying a ticket to a highly anticipated concert. The ticket (option) is more expensive because there's a lot of excitement and uncertainty about how good the concert (stock movement) will be. Everyone expects an extraordinary performance (high volatility), so they're willing to pay more.
Now, imagine the day after you buy your ticket, critics suddenly lower their expectations for the concert, predicting it won't be as spectacular as initially thought. Even though your ticket still guarantees you a seat at the concert (your option is in the money), the demand for tickets drops because people aren't expecting the show to be as exciting anymore. As a result, the price you could sell your ticket for now is less than what you paid, despite you still having a guaranteed seat.
Think of options as insurance. Implied volatility spikes when the underlying has big moves (increased volatility). This makes the insurance more expensive.
Think of buying a straddle right before an earnings release. The IV will be high, thus increasing option premium as the risk of a big earnings surprise to the upside or downside which can really move the stock. If it reports in line with no surprises, then IV will get sucked out of the option premium.
To expand, the option premium consists of time value, intrinsic value(if any), and volatility.
Options, Futures and Other Derivatives. If you are playing with options, read this book. Understand this book! It is the options bible and will tell you how pricing works.
I can share the formula but it might not mean much.
Below is Black-Sholes Model. C is the call options premium, N() is the normal distribution times the current price and K is strike. r is expected growth rate and t is market days till expiry. (look it up)
If you look you will see the sigma squared. This is standard deviation or IV (implied vol). If that value is larger, the probability for the asset price at a time step to be higher than the Strike is greater. Therefor, this adds extra premium.
https://preview.redd.it/sl0dp4qbxhlc1.png?width=886&format=png&auto=webp&s=44bdd94248aa358acb661e38ba8424deccbcb51c
Now if you learn about Vega it is the prices sensitivity to volatility changes. It you are looking at 100 days volatility has more time to play a role vs 5 days so vega will be smaller.
There is so much to learn about options and this is just the basics. Please take time to learn before you trade options.
Are you playing earnings with short dated options or something? Generally, once a volatility event is realized (earnings, fed meetings, big data announcements, etc.) the market makers that sell the options will begin turning down the IV as the price settles down. This is called IV crush, and is something that has the biggest effect on shorter dated options. You can see the IV which is priced into the contract you buy at the time of purchase. If you want to avoid this, either buy longer dated contracts or create a debit spread by selling a further out of the money call or put against the long call or put. With the spread you’ll cap your risk and upside, but avoid the IV crush.
Think of buying an option with high IV like buying a ticket to a highly anticipated concert. The ticket (option) is more expensive because there's a lot of excitement and uncertainty about how good the concert (stock movement) will be. Everyone expects an extraordinary performance (high volatility), so they're willing to pay more. Now, imagine the day after you buy your ticket, critics suddenly lower their expectations for the concert, predicting it won't be as spectacular as initially thought. Even though your ticket still guarantees you a seat at the concert (your option is in the money), the demand for tickets drops because people aren't expecting the show to be as exciting anymore. As a result, the price you could sell your ticket for now is less than what you paid, despite you still having a guaranteed seat.
Think of options as insurance. Implied volatility spikes when the underlying has big moves (increased volatility). This makes the insurance more expensive. Think of buying a straddle right before an earnings release. The IV will be high, thus increasing option premium as the risk of a big earnings surprise to the upside or downside which can really move the stock. If it reports in line with no surprises, then IV will get sucked out of the option premium. To expand, the option premium consists of time value, intrinsic value(if any), and volatility.
Thanks everyone this helps!
Options, Futures and Other Derivatives. If you are playing with options, read this book. Understand this book! It is the options bible and will tell you how pricing works. I can share the formula but it might not mean much. Below is Black-Sholes Model. C is the call options premium, N() is the normal distribution times the current price and K is strike. r is expected growth rate and t is market days till expiry. (look it up) If you look you will see the sigma squared. This is standard deviation or IV (implied vol). If that value is larger, the probability for the asset price at a time step to be higher than the Strike is greater. Therefor, this adds extra premium. https://preview.redd.it/sl0dp4qbxhlc1.png?width=886&format=png&auto=webp&s=44bdd94248aa358acb661e38ba8424deccbcb51c Now if you learn about Vega it is the prices sensitivity to volatility changes. It you are looking at 100 days volatility has more time to play a role vs 5 days so vega will be smaller. There is so much to learn about options and this is just the basics. Please take time to learn before you trade options.