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A Cornelian dilemma: “Moneyness skew” vs “Delta skew” ?

Extension to Skew vs VIX®
Article written as of 2015, March,18TH
by Julien Messias (Uncia Asset Management) –

”Moneyness skew” vs ”Delta skew”

Usually, volatility practitioners like to split their 3D volatility surface into two 2D charts. The first one
is called Term Structure, whose aim is to plot At-The-Money or At-The-Money-Forward volatility for
given maturities. The second one is called the Skew, that stands for the Skewness of the Implied
Distribution of S&P500 returns that can be extracted from listed option prices through BreedenLitzenberger formula[1]. The more liquid the underlying, the more relevant the information.
Our first target is to make things clear about the choice of the relevant estimator for what we call Skew.
There are many ways to calculate the skew, the two more common being “Moneyness skew” and
“Delta skew”. Both have advantages and drawbacks. We are explaining those in the upcoming
“Moneyness skew” is commonly calculated as the difference between the 90%Moneyness volatility
minus the 100%Moneyness volatility. 90% and 100% can alternatively refer to Spot price or Forward
price for a given maturity. A Forward reference is more accurate especially for a high dividend yield
underlying. Moreover, people can also look at 90%-110% instead of 90%-100%.
“Delta skew”, widely used in the FX world is sometimes transposed to the equity world. People usually
compare the Put25%delta to the Call25%delta, or to the 50%delta. This measure is less dependent on
dividend yields, given that the delta already takes it into account.
Herebelow are some charts to explain the difference between the two estimators. The underlying used
is S&P500. 𝑑𝑒𝑙𝑡𝑎𝑠𝑘𝑒𝑤
= 𝜎𝑝𝑢𝑡𝑑𝑒𝑙𝑡𝑎25% − 𝜎𝑐𝑎𝑙𝑙𝑑𝑒𝑙𝑡𝑎25% 𝑚𝑜𝑛𝑒𝑦𝑛𝑒𝑠𝑠𝑠𝑘𝑒𝑤
= 𝜎𝑠𝑡𝑟𝑖𝑘𝑒=90%𝑠𝑝𝑜𝑡 − 𝜎𝑠𝑡𝑟𝑖𝑘𝑒=100%𝑠𝑝𝑜𝑡
The timeframe is from 2005, 3rd January to 2015, 27th February.

Figure1 : Skew delta and Skew moneyness from 2005 to 2015

Figure2 : Ratio (Skew delta/Skew moneyness) vs VIX

Source: Uncia AM, Bloomberg

Which one is the most reliable?

On 27th February, “delta skew” and “moneyness skew” were respectively worth 2.02 and 9.9602.
Therefore, with such a difference of magnitude, the message delivered can be fully different regarding
the chosen measure.
We can notice that:

“Delta skew” is very volatile
“Moneyness skew” is more stable and more “range-bounded”

Delta depends itself on volatility, meaning that “Delta skew” takes into account an implied vanna
effect: the higher the volatility, the higher (in absolute value) the delta of OTM options, the larger the
spread between the strikes chosen to find the required deltas. Moneyness measure, and the strikes it
relies on, do not depend on the volatility level. Figure 2 shows this implied vanna effect: the higher the
VIX®, the higher the ratio Skew delta/Skew moneyness.
If the global volatility level of the underlying (here this level is described by the VIX®) is low, then the
upper and downside strikes used for the “Delta skew” calculation are very close. On the other hand, if
the volatility is high, then the distance between the strikes is likely to be quite large, artificially
increasing the volatility difference.

How to trade “Moneyness skew” vs VIX®

We only focus on “Moneyness skew” 90%/100% as “Delta skew” is not stable enough and submitted
to vanna issues. In the following, skew contribution to VIX is calculated using Derman approximation
for loglinear skew[2] [3]:
® ≈ √𝜎𝐴𝑇𝑀𝐹
+ 𝛽𝜎𝐴𝑇𝑀𝐹 𝑇
+ 𝛽

=− 𝛽

(12𝜎𝐴𝑇𝑀𝐹 𝑇


+ 5𝜎𝐴𝑇𝑀𝐹 𝑇

1 𝑇

= 12 𝑚𝑜𝑛𝑒𝑦𝑛𝑒𝑠𝑠𝑠𝑘𝑒𝑤

(𝜎𝑠𝑡𝑟𝑖𝑘𝑒=90%𝑠𝑝𝑜𝑡 − 𝜎𝑠𝑡𝑟𝑖𝑘𝑒=100%𝑠𝑝𝑜𝑡 )
ln (100%)
ln (100%) 𝑆𝑘𝑒𝑤𝑐𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛

= 1 − 𝜎𝐴𝑇𝑀𝐹

2 𝛽

+ 𝛽𝜎𝐴𝑇𝑀𝐹 𝑇
+ (12𝜎𝐴𝑇𝑀𝐹 𝑇
+ 5𝜎𝐴𝑇𝑀𝐹 𝑇

Figure3 : 𝑚𝑜𝑛𝑒𝑦𝑛𝑒𝑠𝑠𝑠𝑘𝑒𝑤 vs S&P500

Figure4: VIX® vs S&P500

Source: Uncia AM, Bloomberg

Figure 3 shows that there is no evidence of any relationship between the spot level of S&P500 and the
“Moneyness skew”. Figure 5 shows that there is no link either between “Moneyness skew” and VIX®.

Figure5 : 𝑚𝑜𝑛𝑒𝑦𝑛𝑒𝑠𝑠𝑠𝑘𝑒𝑤 vs S&P500

Figure7 : 𝑑𝑉𝐼𝑋 𝑑𝑆𝑘𝑒𝑤

Figure6 : 𝑑𝑉𝐼𝑋 𝑑𝑆𝑘𝑒𝑤

vs VIX®

Source: Uncia AM, Bloomberg 𝑑𝑉𝐼𝑋

As shown by Figure 7, 𝑑𝑆𝑘𝑒𝑤 increases linearly with VIX®: the higher the VIX®, the more sensitive VIX®
is to skew: 𝑑

( 𝑑𝑉𝐼𝑋

) 𝑑𝑆𝑘𝑒𝑤 𝑑𝑉𝐼𝑋

> 0. When VIX® increases, its sensitivity to skew increases, when VIX® decreases,

its sensitivity to skew decreases. This measure can be helpful when a EqD trader decides to trade VIX®
against skew… 𝐶𝐵𝑂𝐸

𝑆𝐾𝐸𝑊 𝐼𝑛𝑑𝑒𝑥 𝑆𝑀 vs VIX®

The real issue for Skew is that the measure (whatever be “Moneyness skew” or “Delta skew”) depends
on the spot level, whereas the strikes of options are fixed. A Skew strategy can only be set up with
fixed-strike options, whereas the way used to calculate the Skew level, and thus the opportunity to
enter in such position depends on the spot price. More than the Skew evolution, the PnL strategy is
highly path-dependent.
Let’s assume a spot price that is worth 100. You enter in a long skew position, by buying the 90%put
(strike 90) and selling the 110%call (strike 110) for example as you find the 90%/110% laying in the low
historical percentiles. If the spot surges to 150, then the skew position you hold is not anymore a
90%/110% but a 60%/73% Skew position.
The CBOE developed the 𝐶𝐵𝑂𝐸 𝑆𝐾𝐸𝑊 𝐼𝑛𝑑𝑒𝑥 𝑆𝑀 in order to fix this issue. The SKEW Index is a measure
of the Skewness of the Implied Distribution of SPX returns. It is calculated as the following, assuming
an Implied Skewness of -3.50, 𝐶𝐵𝑂𝐸 𝑆𝐾𝐸𝑊 𝐼𝑛𝑑𝑒𝑥 𝑆𝑀 = 100 − 10 ∗ (−3.50) = 135.
This measure does not depend directly on the spot price, and if it was tradable through futures as the
VIX can be, this would allow traders to take positions on pure skew, without any path-dependence.

Figure8 : 𝐶𝐵𝑂𝐸 𝑆𝐾𝐸𝑊 𝐼𝑛𝑑𝑒𝑥 𝑆𝑀 vs S&P500

Figure9 : 𝐶𝐵𝑂𝐸 𝑆𝐾𝐸𝑊 𝐼𝑛𝑑𝑒𝑥 𝑆𝑀 vs VIX®

Source: Uncia AM, Bloomberg


We can notice that there is a positive relationship between 𝐶𝐵𝑂𝐸 𝑆𝐾𝐸𝑊 𝐼𝑛𝑑𝑒𝑥 𝑆𝑀 and SPX.
This can be very counterintuitive for non-practitioners.
Moreover, the higher the VIX®, the lower the 𝐶𝐵𝑂𝐸 𝑆𝐾𝐸𝑊 𝐼𝑛𝑑𝑒𝑥 𝑆𝑀 .

About Uncia Asset Management (Paris – France)

We are 4 associates, having created the first French equity Asset Management company to focus on
"high-growth" companies, through a stock-picking and global approach.
This way of investing is unique in Continental Europe, and we are eager to spread our philosophy
among French investors.
We began to invest on October 16th, 2013 with two global funds.

Uncia Global High Growth : a dynamic equity fund


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Performances as of
March 18th
Growth – I share class
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Equity – I share class
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[1]Breeden D., Litzenberger R. (1978): Prices of State-Contingent Claims Implicit in Option Prices. The
Journal of Business, Vol.51, No. 4 (Oct., 1978), pp. 621-651
[2] Demeterfi K., Derman E., Kamal M., Zou J. (1999): More Than You Ever Wanted to Know About
Volatility Swaps. Quantitative Strategies Research Notes. Goldman Sachs
[3] Bossu S., Strasser E., Guichard R. (2005): Just What You need to know about Variance Swaps.