HOLLOW POINT TRADING
What is Vega?
Vega measures how much an option's price changes for every 1% change in implied volatility (IV). If an option has a vega of 0.15, and IV increases by 1%, the option price rises by $0.15.
Unlike the other Greeks, vega is always positive for long options and negative for short options. Both calls and puts gain value when volatility increases.
Understanding Implied Volatility
What is IV?
Implied volatility represents the market's expectation of future price volatility. It's "implied" because it's derived from option prices themselves—not historical movement.
High IV = Expensive options (market expects big moves)
Low IV = Cheap options (market expects calm)
📈 High IV Environment
• Options are expensive
• Better for sellers (collect more premium)
• Often before earnings/events
• IV > 50% is generally "high"
📉 Low IV Environment
• Options are cheap
• Better for buyers (less premium to pay)
• Calm market conditions
• IV < 20% is generally "low"
Vega Characteristics
🎯 Key Vega Facts
- Vega is highest for ATM options — most sensitive to IV changes
- Vega is higher for longer-dated options — more time for volatility to matter
- Long options = Long vega = Profit from IV increase
- Short options = Short vega = Profit from IV decrease
- Vega decreases as expiration approaches
IV Crush
⚠️ The IV Crush Problem
Before events like earnings, IV spikes as uncertainty increases. After the event, IV drops dramatically—this is called IV crush.
Even if you get the direction right, IV crush can cause your options to lose money. A stock rising 5% after earnings can still result in losses if IV drops from 80% to 30%!
| Scenario | Stock Move | IV Change | Option Result |
|---|---|---|---|
| Big Move + IV Crush | +8% | 80% → 30% | Profit (move wins) |
| Small Move + IV Crush | +2% | 80% → 30% | Loss (crush wins) |
| No Move + IV Crush | 0% | 80% → 30% | Big Loss |
Trading Vega
✅ Long Vega Strategies
• Buy options when IV is low
• Long straddles before events
• Calendar spreads (long back month)
• Profit when IV rises
✅ Short Vega Strategies
• Sell options when IV is high
• Iron condors after events
• Short strangles in calm markets
• Profit when IV falls
Volatility is the Price of Options
Understanding vega is crucial for options trading. When you buy options, you're not just betting on direction—you're betting on volatility. Cheap options (low IV) can be a great deal. Expensive options (high IV) can destroy your returns even when you're right about direction.
Always check IV before entering a trade—it's as important as direction.