Volatility Spikes: When Fear Overprices Options and Creates Opportunity
Volatility is the heartbeat of option pricing – when volatility expectations jump, option premiums jump with them. A volatility spike usually means traders are scrambling for protection, bidding up the price of options (especially puts) to extreme levels. Essentially, investors caught in a fearful mindset become willing to pay almost any price for insurance on their portfolios. In such frenzied moments, implied volatility can overshoot reality: the options market’s forecast of future volatility becomes far higher than what actually ends up happening. And when implied volatility (IV) is higher than realized volatility, option sellers have an edge – they’re getting overpaid for the risk they take. This is why veteran premium sellers often say, “sell vol(atility) when it’s high.” They know that once the panic subsides, IV will likely revert to the mean (a well-known tendency in volatility), and those overpriced options will rapidly lose value in the seller’s favor.
One quick look at the IV Rank on Slope and you can clearly see opportunities are prime for options selling strategies.
From a behavioral perspective, fear-driven volatility spikes push option prices to irrational extremes. In extreme scenarios, option buyers become “price agnostic,” paying nearly any asking price for calls or puts during a volatile panic. This dynamic is great news for option sellers: you can collect outsized premiums for options that, under calmer conditions, would pay only peanuts. In practical terms, a volatility spike allows you to sell options far out-of-the-money (further from the current price) and still pocket a hefty premium. That means you can position trades with a large cushion (high probability of expiring worthless) and get paid generously to do so. Selling a deep out-of-the-money option during a quiet market might yield $0.50, but during a volatility surge that same option could fetch $5.00 or more. Such inflated pricing tilts the odds in favor of the seller.
It’s important to note that while high implied volatility gives premium sellers a statistical edge, it also comes with actual market turmoil – underlying prices can swing wildly in the short term. In other words, realized volatility (the actual price movement) is elevated during these periods too. That means risk is real, even if the odds are on your side. The goal is to sell expensive options prudently: use strategies that define your risk and set exit rules. As one volatility expert noted, selling richer premium in a spike offers more opportunity provided you prioritize risk management, use defined-risk structures, and size positions conservatively. With the right approach, a volatility spike becomes a favorable bet: you’re effectively playing the role of the insurance company, collecting high premiums from fearful buyers and expecting that not all the worst-case outcomes they fear will come to pass.
Key benefits for option sellers when volatility spikes:
- Inflated Premiums: Options are expensive during fear-driven surges, so you collect far more credit upfront than usual. For example, when IV spiked in 2020, at-the-money option premiums ballooned as VIX shot above 80. Sellers who wrote options at these levels received historically high income for the risk they took.
- Better Probabilities: With higher IV, you can sell options at strikes much further from the current price (deeper OTM) while still getting paid well. This means a higher probability that those options expire worthless. In a calm market, a 10% OTM put might pay little, but in a panic it can pay richly, giving you a wide margin of safety.
- Volatility Mean Reversion: Volatility is mean-reverting – after a sharp spike, it typically falls back toward normal. Selling options when IV is at extreme highs is effectively a bet on this mean reversion. If and when IV drops (and fear recedes), the options you sold will cheapen, allowing you to buy them back for a profit or let them expire worthless.
- Variance Risk Premium: Historically, implied volatility tends to overestimate actual market volatility on average (partly because investors pay a premium for protection). By consistently selling options in high-vol environments, you tap into this “variance risk premium,” essentially getting paid because others are overpaying for fear. Over time, this can be a significant source of profit as long as you avoid getting caught by the rare truly extreme move beyond your risk limits.
In short, volatility spikes are often when option premiums become significantly overvalued relative to probable outcomes. A prepared premium seller views these moments the way a shopkeeper might view a storm that panics the town: if people suddenly want to pay triple the usual price for umbrellas, you’d be glad to sell umbrellas from your inventory. The spike in demand (and price) works in your favor.
As a long-time member of the Slope community, I understand how tough it can be to find an options newsletter focused on real substance, not just sales tactics.
That’s why I created The Option Premium—a research-driven, no-frills weekly email designed for traders who value probabilities over predictions.
There are no gimmicks, no upsells, and no fluff—just one free issue each week, filled with actionable education, trade ideas, market insights, and the strategies I personally use in my trading.
If you’re looking for a steady, practical approach to options that you can actually learn from and implement, I’d be honored to have you on board.
📩 Sign up here (free): The Option Premium
— Andy Crowder
