Hedgers paying more for downside oil protection

March 27, 2015 3:18 PM (UTC+8)

 

Oil had its best week in five years on the back of the Saudi-led coalition air strikes in Yemen, but the gap between the cost of options with a strike price 10% below spot and options 10% above spot is wider than ever. The normalized cost of options at different strike prices and maturities is expressed in points of implied volatility, an output of option-pricing models

oilvol

As the oil price plunge gained speed in mid-December, the normalized cost of oil options at different strike prices was roughly the same. But as oil recovered, the gap between implied volatility on options with a strike 10% above spot widened relative to options with a strike 10% below spot. In plain English, that means that a 10% drop in oil hurts a lot more people than a 10% rise in oil.

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