How Is Implied Volatility Used to Calculate the Theoretical Value of a Crypto Option?
Implied volatility (IV) is a necessary input for option pricing models like Black-Scholes. Once the IV is derived from the current market price of an option, it is plugged into the model along with the other inputs (asset price, strike, time, RFR) to calculate the theoretical fair value.
Arbitrageurs look for options whose market price deviates significantly from this calculated theoretical value to identify mispricing.
Glossar
Implied Volatility
Expectation ⎊ This value represents the market's consensus forecast of future asset price fluctuation, derived by reversing option pricing models using current market premiums.
Theoretical Value
Value ⎊ This represents the analytically derived fair price of an option or derivative contract, typically calculated using established models like Black-Scholes adapted for crypto parameters.
Option Pricing Models
Valuation ⎊ Option pricing models, within cryptocurrency markets, extend established financial derivative theory to nascent asset classes exhibiting unique characteristics.
Time to Expiration
Decay ⎊ Time to Expiration, within cryptocurrency options and financial derivatives, represents the remaining lifespan of a contract before its termination and potential exercise or assignment.