In the world of options trading, one term that every trader must understand is Implied Volatility (IV). Whether you trade NIFTY, BANKNIFTY, or F&O stocks, IV plays a critical role in option pricing and can decide whether your trade is profitable or not. In simple words, IV reflects the market’s expectation of future volatility.
But unlike historical volatility (which looks at past price movements), IV looks forward – it shows how much movement traders are expecting in the coming days.
What is Implied Volatility?
Implied Volatility (IV) represents the expected future movement in the price of a stock or index, derived from the current option premiums. It doesn’t predict the direction (up or down), only the magnitude of the move.
👉 Example: If NIFTY options are showing high IV, it means traders expect big swings in the market – but it doesn’t tell you whether up or down.
How is IV Calculated?
IV is not directly observable. It is calculated backward from option pricing models like Black-Scholes or Binomial Models.
Key inputs:
- Current stock/index price
- Strike price
- Time to expiry
- Interest rate
- Option market price
Since traders don’t calculate IV manually, they rely on option chain data from NSE, Zerodha Kite, or other brokers, where IV is already displayed.
Why IV Matters in Option Pricing
- High IV = Expensive Options
When IV rises, option premiums become costlier because the market is pricing in higher risk/uncertainty. - Low IV = Cheaper Options
When IV falls, option premiums become cheaper, as the market expects less movement.
👉 Example: During Union Budget, NIFTY and BANKNIFTY options see a spike in IV because traders expect big market moves.
IV Percentile and IV Rank
Two important tools for traders:
- IV Percentile → Shows where the current IV stands compared to the past year.
Example: 80% IV percentile means IV is higher than 80% of the past year’s values. - IV Rank → Compares the current IV to its 1-year high and low.
Example: If IV high = 50%, low = 10%, and current IV = 40%, then IV Rank = 75%.
👉 Traders use these to decide whether to buy or sell options.
Practical Use of IV in Trading
- High IV → Better for Option Selling
Strategies: Iron Condor, Short Straddle, Short Strangle.
Because premiums are high, sellers collect more income. - Low IV → Better for Option Buying
Strategies: Long Straddle, Long Strangle.
Because premiums are cheap, buyers can benefit if the market moves suddenly.
IV Crush – The Silent Killer
One of the biggest traps for new option buyers is IV Crush. After major events (earnings, RBI policy, elections, budget), IV drops sharply, and option premiums collapse – even if you predicted the right direction.
👉 Example: Reliance results day – IV is high before results, but after results, IV crashes, making option prices fall sharply.
IV in Indian Market Context
In India, the most traded instruments are NIFTY and BANKNIFTY options. IV behaves differently for:
- Index options → More stable IV, influenced by macro events.
- Stock options → Higher IV fluctuations, especially around earnings.
Stocks like Reliance, TCS, HDFCBANK, INFY often show sharp IV changes.
Risks and Limitations of IV
- IV is not directional → It doesn’t say whether the market will go up or down.
- High IV ≠ Guaranteed move → Sometimes IV stays high but market doesn’t move much.
- Event-driven → Traders must be cautious around results, RBI meetings, elections, etc.
Conclusion
Implied Volatility (IV) is a powerful tool for every option trader.
- Use IV to understand market expectations.
- Use IV Rank/Percentile to judge if options are expensive or cheap.
- Always combine IV with OI data, price action, and Greeks for better trades.
If you’re new, start by observing IV on NSE Option Chain and notice how it changes during events. The more you track, the more confident you’ll become in using IV to your advantage.