Implied volatility reflects what the market expects future price swings to look like — and it's rarely flat across strike prices. The resulting "skew" reveals where the market is pricing in the most fear or complacency.
Implied volatility (IV) is the volatility level that, when plugged into an options pricing model, produces the option's actual current market price. Rather than measuring what a stock has already done (that's historical, or "realized," volatility), IV reflects what the options market currently expects future price swings to look like — it's a forward-looking, market-implied forecast, embedded directly in option prices.
If IV were the same for every strike price on the same expiration, plotting it would produce a flat line. In practice it almost never is — plotting IV across strikes typically produces a curve, commonly called the volatility skew (or "smile," when it curves up on both sides). For equity index options, the skew is usually downward-sloping: out-of-the-money puts (protection against a crash) trade at meaningfully higher implied volatility than out-of-the-money calls, reflecting persistent demand for downside protection.
The skew is genuinely informative: a steepening skew (puts getting relatively more expensive versus calls) signals rising demand for crash protection — often a sign of building fear, even before the underlying stock has moved much. A flattening skew can signal the opposite. Reading the skew is reading what the options market is actually worried about, not just what the headline "IV" number says.
Implied volatility across five strikes on a hypothetical index option, all same expiration, stock at $100 — a textbook downward skew shape.
| Strike | Type | Moneyness | Implied Volatility |
|---|---|---|---|
| $85 | Put | 15% OTM | 28% |
| $95 | Put | 5% OTM | 21% |
| $100 | Both | At the Money | 18% |
| $105 | Call | 5% OTM | 16% |
| $115 | Call | 15% OTM | 14% |
The deep out-of-the-money put (15% below the current price) carries the highest implied volatility at 28% — nearly double the equivalent out-of-the-money call at 14%. That gap reflects the market pricing in persistent demand for downside crash protection, a pattern seen consistently in equity index options.
Enter implied volatility for an out-of-the-money put and an equivalent out-of-the-money call — see the skew gap and what it suggests, under a simple rule.
Model (illustrative only): skew gap = put IV − call IV. A gap under 3 points is read as roughly flat; 3-8 points as a typical downward skew; over 8 points as a steep, fear-driven skew. Real skew analysis uses many more strikes and statistical rigor than this simplified two-point rule.
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You now understand what drives an option's price beyond the stock itself. The next lesson shows how option sellers can be compensated in premium for taking the other side of that expectation.