Term Structure

Term Structure of volatility is the characteristic differences in implied volatility between options of different expirations.

The Term Structure of Volatility

In addition to the volatility smile, options of different maturities also display characteristic differences in implied volatility. This is referred to as the Term Structure of volatility.

What Affects Term Structure

A few things affect the term structure of volatility.

The main effect relates to the implied impact of upcoming market or project events.

Anticipated events such as forks, burn and unlocking events can further distort the term structure so that implied volatility is significantly higher for one expiration than another. These distortions disappear after the event has passed.

For example, a BTC option maturing after Bitcoin's halving event would be expected to have higher implied volatility than one expiring right before such a milestone event, as there are price uncertainty thereafter.

Volatility tends to compress the shape of the smile curve as the maturity date increases. There isn’t necessarily a “standard” term structure of volatility, but there are four common ones.

1. Humped

2. Downsloping

If short-dated options have unusually high implied volatility, the term structure on that underlying will likely be a declining curve. This means there is lower implied volatility for longer-dated options.

3. Upsloping

Conversely, if the implied volatility is unusually high for options on an underlying, the term structure will likely be rising, meaning there is higher implied volatility for longer-dated options.

4. Flat

Flat term structure is rare as it says that near-term and far-term implied volatilities are equal. This mainly occurs in interest rates, which generally indicates that investors are unsure about future economic growth and inflation.

What's Important

It is important to distinguish between the volatility smile and the term structure of volatility, which measures the effect of time on implied volatility.

By having a good understanding of Term Structure, volatility traders can execute the most suitable trades to take advantage of the volatile (or lack of) crypto markets.

Related Metrics: ATM IV Term Structure (All Exchanges)