Welcome to this walkthrough of short volatility strategy for earnings.
This guide will summarise the key points you need to know about researching and implementing this strategy.
Be sure to take the quiz at the end to test your understanding and receive personalised feedback.
Start with our long volatility tutorial, where we explore the basics. Once you've got a good understanding, come back here to dive into the other side of volatility strategies: short volatility.
As you've seen, volatility strategies involve betting on the magnitude of the movement during earnings.
Long volatility position is a bet that the actual move will be larger than the implied move.
Conversely, short volatility is the opposite, betting that the move will not exceed the implied move.
In other words, you're betting that the market pricing is correct and that the realised volatility will be lower than the implied volatility.
This strategy aims to profit from IV crush and theta decay, with the main risk being an extreme move during earnings.
Entry and exit are same as for long volatility.
Playing short volatility involves selling options rather than primarily buying them.
The idea is to sell options before earnings, options inflated from the high IV, then buy them back at a lower price after the release, benefiting from the IV crush, theta decay, and a smaller-than-expected move.
However, caution is essential; if not properly calibrated, a short volatility position can expose you to unlimited losses.