CVOL Skew Ratio
To understand the skew ratio, let’s first explain what it may imply and then how it is calculated. The ratio may suggest the option market participants’ perception of an upward or downward direction of its underlying futures market. The skew ratio is either above or below 1.0. There are three possibilities of sentiment.
- If the ratio is above 1.0 and moving higher, it implies the underlying futures market is perceived by options market participants for the price to more likely increase.
- If the ratio is below 1.0 and moving lower, it suggests the options participants’ perception of the underlying futures market to more likely decline.
- If the ratio is moving towards 1.0 from either a higher or lower level, it suggests the underlying futures market might be moving sideways, is in balance, or at least has no suggestion of direction.
The skew ratio is calculated by dividing the Up Variance (UpVar) of a futures market’s options by the Down Variance (DnVar) of a futures market’s options. UpVar and DnVar, which are also derivative metrics of the CVOL suite, measure volatility in the individual option wings. UpVar measures the volatility of out-of-the-money call options to determine upside risk. DnVar measures the volatility of out-of-the-money put options to determine the downside risk.2 Skew ratio takes these values and divides one by the other to determine the skewness of the volatility curve, which in this case UpVar being divided by DnVar. This creates a normalized ratio that shows how excess volatility may be in out-of-the-money calls versus puts or vice versa. Also, since it is expressed as a ratio, it is a useful tool for comparing skewness across asset classes.
Skew Ratio Examples
Figure 1 notes a seasonal tendency in both natural gas options and CVOL’s skew ratio; during the winter months (the grey bars), the natural gas skew ratio tends to rise as options market participants seek upside protection from sudden cold bursts that could drive up demand for the common source of heating energy. The skew ratio is also suggesting the options participants are expecting higher prices. This is notable in the cold flash of the winter of 2018/2019 when upside volatility quickly rose alongside the skew ratio due to sudden increased demand of heating.
Figure 1: Natural Gas Futures and CVOL Skew Ratio
Figure 2 demonstrates how the skew ratio generally tends to move in tandem with the direction of crude oil futures. In early May 2025, crude oil futures fell below $60 per barrel. Simultaneously the skew ratio was below 1, suggesting the crude oil option market perceived the market to trade sideways or perhaps continue its decline since peaking in January.
Figure 2: Front Month Crude Oil Futures & CVOL Skew Ratio
However, as Middle East tensions increased between May and June, crude oil prices rallied and the skew ratio climbed from below 1 to 1.8, showing market participants sought upside risk protection via options on expectations for the possibility of escalating tensions. Going forward, the skew ratio has maintained a level above 1, thus the options market suggests crude oil futures would maintain an elevated price relative to the April and May prices.
Examples of the Skew ratio and Convexity occurring simultaneously
As the previous examples focused on the skew ratio in isolation of other CVOL metrics, sometimes various CVOL metrics move in tandem, suggesting a more complicated or nuanced market environment. The examples below demonstrate movements in the skew ratio suggesting an options market perspective of market direction, while convexity (see convexity paper) shifts, proposing uncertainty of direction.
Figure 3 notes that as the Euro futures began to rally against the U.S. dollar in early March, the skew ratio simultaneously shifted quickly from 0.90 to 1.05 and convexity quickly spiked and then declined. As tariffs were introduced, the FX markets were in flux amid questions of how trade policies would be finalized and the implications of those policies/agreements. By April, convexity increased as more variance occurred at the wings of the strike prices versus at-the-money (ATM) strike price. So here, a rising convexity indicated the market was pricing in some sort of a move, with skew ratio indicating the probability of that move being likely to be to the upside in the underlying futures market
Figure 3: Front Month Euro Futures, CVOL Skew Ratio & Convexity
As fighting in Ukraine continued into October 2022, wheat futures prices rallied from about $7.50 per bushel in the summer to just over $9 per bushel by October (Figure 4). Wheat’s skew ratio also increased as a rally developed. Simultaneously, convexity was also increasing, implying the options market’s increasing uncertainty for the future direction of wheat futures. Fundamentally, this related to the Black Sea Grain Initiative agreement with a November 19 deadline to allow Ukraine to continue exporting food and fertilizer through three Black Sea shipping ports.3
Figure 4: Front Month SRW Wheat Futures, CVOL Skew Ratio & Convexity
Particularly interesting is the marked increase in convexity in early November while the skew ratio remained steady at elevated levels. This non-parallel move in convexity and skew ratio indicates that the risk premium was continually being purchased in both calls and puts (relative to at-the-money) as reflected by a rising convexity.
The skew ratio remaining stable while convexity jumped indicates that risk was being purchased in both out-of-the-money puts and calls as opposed to just calls. If the latter was true (i.e. continual purchase of protection for upside risk with the purchase of out-of-the-money calls), the skew ratio would have risen as well. While the skew ratio has the power of indicating potential directionality in the market, convexity is still an important metric to follow for gauging uncertainty and price of risk in out-of-the-money options.
Figure 5 shows front-month copper futures’ skew ratio reacting to the back-and-forth news cycle surrounding the proposed copper tariffs in April. This led to market participants seeking upside protection due to concerns of the impact on copper-related supply chains as the metal has a variety of applications including construction, wiring, the energy transition and solar panels. Simultaneously, convexity also increased, suggesting market participants may have conflicting sentiments about copper.
Figure 5: Front Month High Grade Copper Futures, CVOL Skew Ratio, & Convexity
Summary
The skew ratio is derived from volatility of OTM calls relative to the volatility of OTM puts. It can note market sentiment of a given futures market. Moving above 1.0 implies a bullish sentiment while moving below 1.0 suggests a bearish sentiment. It helps to view the skew ratio in relation with other CVOL metrics. As noted above, it’s possible for the skew ratio to offer directional market sentiment of an underlying futures market, while convexity can also suggest general uncertainty for future direction. This would suggest conflicting views of market sentiment. Examining these metrics in the context of market fundamentals can be helpful.
References