IV crush is a phenomenon that occurs when implied volatility (IV) drops significantly after an event or earnings announcement. This can cause option prices to decline, even if the underlying stock price remains unchanged.
Why Does IV Crush Happen?
IV is a measure of the expected volatility of a security over a period of time. It is based on the prices of options that are traded on the open market. When there is a major event or earnings announcement, investors become more uncertain about the future price of the security. This uncertainty leads to an increase in IV.
However, once the event has occurred and the news is released, the uncertainty is removed. As a result, IV drops back down to its previous level. This can cause option prices to decline, even if the underlying stock price remains unchanged.
How Can You Avoid IV Crush?
There are a few things you can do to avoid IV crush:
- Buy options with longer expiration dates. Options with longer expiration dates are less sensitive to changes in IV.
- Buy options with lower implied volatility. Options with lower IV are less likely to experience a large drop in price after an event or earnings announcement.
- Sell options. Selling options is a way to profit from IV crush. When IV drops, the value of the options you sell will also drop.
Conclusion
IV crush is a risk that all option traders should be aware of. By understanding how IV crush works, you can take steps to avoid it and protect your profits.
Here are some additional tips for avoiding IV crush:
- Trade options that are not heavily influenced by earnings announcements. Some stocks are more sensitive to earnings announcements than others. If you can, trade options on stocks that are not as sensitive to earnings news.
- Use a stop-loss order. A stop-loss order will automatically sell your options if they reach a certain price. This can help you to limit your losses if IV crush causes the value of your options to decline significantly.
- Be patient. IV crush is a short-term phenomenon. If you are patient, the value of your options will eventually recover.
Related Topics: Options Course
