Explain the Concept of “Volatility Smile” or “Volatility Skew” in Options Trading

Volatility smile and skew describe the phenomenon where implied volatility (IV) for options with the same expiration date is not constant across all strike prices, contradicting the Black-Scholes assumption. A "smile" shows higher IV for both out-of-the-money (OTM) and in-the-money (ITM) options compared to at-the-money (ATM) options.

A "skew" is an asymmetrical version, often showing higher IV for OTM put options (e.g. fear of a market crash). This pattern is particularly pronounced in crypto options, reflecting market demand for hedging against extreme price movements.