Volatility Views 160: Cheat the Right Way

Volatility Review: The week in review, from a volatility perspective Some action earlier this week as S&P dropped over 1% and VIX popped to the 14 handle. VIX Futures: Front month future flirted with 15 during the selloff. VIX Options: Anemic volume week post-holiday - only 63k contracts through 11am. Still mostly call buyer in June - primarily VIX. Total 6.06m (4.73m Calls, 1.33m Puts) VXX: Puts trade in iPath S&P 500 VIX Short Term ETN (VXX) are up 0.34 to 19.02 today. VXX is near the lower end of the 52 week range. VXST: Volume: 0, OI: 4. VXST will be replaced by VIX weeklies probably by the end of the summer depending on VIX weekly approval and launch. Crude Oil: OIV: 33.04; OVX: 32.5 Volatility Voicemail: Listener questions and comments Question from Aeschylus - One thing I cannot understand clearly is why there is so much focus on the volatility smile. Given my knowledge of the Black and Scholes model, this is what I get: People use the volatility smile as a forecast of future volatility. They assume that the market is 100% efficient and everyone would engage in dynamic hedging if they could or that everyone agree that the Black and Scholes model gives the "fair" price for the option, whatever it means to them. Therefore any difference between the market price and the BS price shouldn't be interpreted as an opportunity for arbitrage or a presence of model risk, but what 'the market' is saying the BS parameters should be, in special the volatility the market is predicting for the future time until the maturity of the European option. Question from James Bass - Why is IV different between put and call of same strike? In his book Dynamic Hedging Nassim Taleb says that the volatility of an OTM put should be exactly equal to that of a corresponding in the money call of same strike. But in option chains, the calls always have a slightly higher IV than the corresponding put. Is this because I am looking at American option chains and not European?