Options trading can be profitable as long as you understand how to pick the correct options. You will need to learn metrics, like beta, alpha, and delta.
Moreover, you will have to understand implied volatility and how to use it when trading options.
What Is The Implied Volatility Rank?
Implied volatility rank or IV rank is a metric that options traders use to compare a stock’s implied volatility to its implied volatility history. It measures the underlying stock of a particular option and how wide the variations in price movements are.
IV rank can be relative to the industry that the underlying stock is in. For example, you might think that an IV rank of 50% is high until you see that the underlying stock is a penny stock that usually makes 100% up or down moves each week.
The implied volatility rank gives options traders a reference to look at, which tells them more information than just looking at the options chain. It is somewhat like an average. The IV rank uses the lowest and the highest levels of implied volatility over the previous 52 weeks. The implied volatility can then be ranked from 0 to 100 (the maximum).
According to TastyTrade, “Implied volatility is one of the most important metrics to understand and be aware of when trading options.
In simple terms, IV is determined by the current price of options contracts on a particular stock or future. It is represented as a percentage that indicates the annualized expected one standard deviation range for the stock based on the option prices. For example, an IV of 25% on a $200 stock would represent a one standard deviation range of $50 over the next year.”
How to use IV Rank in Options Trading
There are three main metrics that go into the pricing of options:
- Time to option expiration
- Strike price
- Implied volatility
To see if an option is priced at a fair value or overpriced, you need to know both the implied volatility and the IV rank. For example, you find an option with an IV of 20%, and you might think that its volatility is low and the option is cheap.
But if you also calculate the IV rank, you might see it is at 95, which is very high. This will show you that the option is expensive when taking into account the historical implied volatility or IV rank.
Looking at a stock’s current price or its IV might not tell the whole story, and you have to look at its IV rank to get a better idea if the option is priced fairly. The IV rank is not only used to get an idea of how expensive an option is but also used to find selling and buying opportunities.
In general, a high IV can be a good selling opportunity because premiums will be higher. When IV rank is low, it could indicate a buying opportunity.
Implied volatility is an important metric when looking for profitable options trades, but IV can be deceiving. You must also look at the option’s IV rank before making a trade.