HDFC BANK Edition – Where’s the edge?

Options traders trading the short side of volatility look for a simple volatility edge to play out. This edge expresses itself when the implied volatility from options pricing is greater than the future realized volatility. 

This volatility edge can also be described as the market’s fear/greed over-estimating the future moves of the underlying. 

So let’s see how that has worked out in the case of $HDFCBank in the month of November 2018. 

Implied Volatility and Historical Volatility plotted for $HDFCBank

The October series started with a spike in the implied volatility for $HDFCBank. Great for option sellers, but then the actual moves in the stock price caught up. All through the month of November, the historical volatility of the stock stayed above implied volatility.

In other words, the actual moves of the stock have been greater than what the options had priced in.

Hdfc Bank options is one of several examples on the NSE where the volatility edge is simply not present and future realized volatility (FRV) trumps implied volatility on a regular basis. 

We look to buy options in these types of underlyings and accept that moves might not materialize at all times. One of the several factors that aid us in timing this correctly include the levels of IV in relation with itself and HV over a given time period.

There are several types of non-directional options structures that can benefit from this prevalence of FRV > IV with the long straddle (long call + long put) being the simplest of them all. Traders who can build conviction in directional trades would skip the non-directional long options and look for options strategies that aid their directional view as well.