TradeStation Help
An important factor that impacts an option's price is the volatility of the underlying asset. Volatility can be calculated using several different methods, and there are different types of volatility, such as statistical and implied. OptionStation also enables you to apply volatility indicators to the data contained in a Position Analysis window that automatically calculates the volatility for options, as well as for the underlying asset.
Volatility is defined as a measure of the amount by which an underlying asset is expected to fluctuate in a given period of time. It is generally measured by the annual standard deviation of the daily price changes in the asset.
The volatility of an underlying asset is a major contributing factor to an options contract's overall value. More volatile underlying assets tend to have higher options contract prices. This is because a more volatile underlying asset has the ability to move a relatively larger distance upward or downward in price, and can do so in shorter spans of time than an underlying asset that is less volatile. Options associated with more volatile underlying assets are more attractive to options traders who are looking for an increase or decrease in price over a defined span of time to make their options contract profitable.
OptionStation enables you to choose different volatility models that are used to calculate theoretical prices. You are able to select a volatility model in the Position Search Wizard when you create a Position Search window. You can also select from several volatility indicators when working in a Position Analysis window. These indicators can display a different type of volatility in addition to the volatility models OptionStation uses. They also offer different methods to calculate volatility. Some examples are market implied, weighted, or inclusion of the Greek risk measurement Vega to monitor the impact the underlying asset volatility will have on the price of an option.
You can also write your own volatility model or indicator in EasyLanguage. However, if you are fairly new to options trading, it is strongly recommended that you select one of the several volatility models or indicators available to you as they are calculated based on widely used standard models. The seasoned options trader, though, may find modifying or creating volatility models and indicators based on their own observations and analysis very effective to their trading style.
The two most widely used volatility models are statistical and market implied.
Statistical volatility is calculated using a standard deviation of underlying asset price changes from close to close trading during the past month (generally 21 days of historical data). This is the most common volatility model currently used and is usually available from your data provider.
You can also use the volatility indicator provided in OptionStation. This indicator can be applied to charted price data, or to the underlying asset in your Position Analysis window. This indicator is statistical in nature and provides a smoothed average of the underlying asset's true range (actual price moves from one bar to the next within a defined time frame) which gives a good indication of price activity and fluctuations.
Statistical volatility, as previously noted, is calculated using the historical price movement of the underling asset. Implied volatility on the other hand, is calculated based on the currently traded option premiums. Implied volatility is important to traders because it is used as a measurement of whether option premiums are relatively expensive or inexpensive.
For any option that has a quote, it is possible to determine, by using an option pricing model, the volatility of the option. The volatility of an option is implicit in the price; hence the term implied volatility.
In order to ascertain an option's implied volatility, an option pricing model is used in reverse. What is known is the price of the option and all the other variables except the volatility the marketplace is using. Instead of using the model to solve for the option's price, it is used to solve for the option's volatility. The option's price is inserted into the model, the volatility is left out (since it is unknown), and all other variables are kept the same. The implied volatility, once calculated, can be used to decide if an option is over or under priced. This is done, for the most part, by comparing the implied volatility with the statistical volatility.
Real-time/delayed data users will gain the most potential from using Market Implied Volatility because the pricing model and calculations used to determine the implied volatility are using "today's" data which will yield the most accurate and timely volatility level possible.
OptionStation also enables you to define your own volatility in the Position Search Wizard. This means you do not want to use any calculations or modeling. OptionStation will then use the volatility that you defined for all of its calculations that employ volatility. Some options traders and investors have their own methods of determining the volatility of a particular underlying asset. If this is the case for you, you can enter your own volatility.
Volatility is an important factor in working with accurate data. Unless you understand how to calculate volatility, it is recommended that you select one of the volatility models offered. You can always modify some of the inputs of the included volatility indicators to access other volatility values.