Table of Contents
Computing the Put/Call Skew
Example Computation for MasterCard
In this example, data is pulled from MasterCard (MA) after close on May 14 2020. On that day, in our Put Skew Index, MA had a put skew of 1.911, let’s see how this number is computed from raw data.
Step 1: Computing prices, getting the right strikes
| Legend | Description | Computation | Output |
|---|---|---|---|
| Price | Current Share Price | $269.16 | |
| 110% SP | 110% of Current Share Price | $269.16 * 1.1 | $296.08 |
| 90% SP | 90% of Current Share Price | $92 * 0.9 | $242.24 |
| High Call Strike | Call option immediately above 110% SP | Strike above $296.08 | $300 Call |
| Low Call Strike | Call option immediately below 110% SP | Strike below $296.08 | $295 Call |
| High Put Strike | Put option immediately above 90% SP | Strike above $242.24 | $245 Put |
| Low Put Strike | Put option immediately below 90% SP | Strike below $242.24 | $240 Put |
Step 2: Ensuring options pass liquidity checks
| Option | Expiry | Bid | Ask | Ask/Bid |
|---|---|---|---|---|
| $295 Call | 6/19 | $2.64 | $2.93 | 2.93/2.64 ~= 1.11 |
| $300 Call | 6/19 | $1.65 | $1.97 | 1.97/1.65 ~= 1.19 |
| $240 Put | 6/19 | $4.30 | $4.60 | 4.6/4.30 ~= 1.07 |
| $245 Put | 6/19 | $5.20 | $5.75 | 5.75/5.20 ~= 1.10 |
The liquidity check requires Ask/Bid of all 4 options to be below 1.25. If any are above 1.25, they are excluded from Put/Call Skew index. Stocks that barely make the liquidity cut off may enter and exit the Put/Call Skew index multiple times per day.
Step 3: Computing option midpoints
| Option | Computation | Midpoint price |
|---|---|---|
| $295 Call | (2.64 + 2.93)/2 | $2.785 |
| $300 Call | (1.65 + 1.97)/2 | $1.81 |
| $240 Put | (4.3 + 4.6)/2 | $4.45 |
| $245 Put | (5.2 + 5.75)/2 | $5.475 |
The midpoint price is taken as the price for that option.
Step 4: Interpolated Price
| Option | Computation | Interpolated price |
|---|---|---|
| $296.08 Call | 2.785 – (2.785-1.81)/(300-295) * (296.08 – 295) | $2.5744 |
| $242.24 Put | 4.45 + (5.475-4.45)/(245-240) * (242.24 – 240) | $4.898 |
Step 5: Calculate Skew
| Category | Requirement | Skew |
|---|---|---|
| Call Skew | 10% OTM Call Price > 10% OTM Put Price | N/A |
| Put Skew | 10% OTM Put Price > 10% OTM Call Price | $4.898/2.5744 = 1.903 |
If the Put price is higher, the stock has a put skew. If Call price is higher, the stock has a call skew.
In this example of MA on May 14 2020, we manually computed Put skew with a result of 1.903 using the end of day data.
There’s a slight disparity to FDscanner’s computed 1.911 because the exact time we used to retrieve option bid/ask is slightly different.
Conclusion
Result for MasterCard May 14 2020:
Manually Computed Put Skew: 1.903
FDscanner’s Put Skew: 1.911
Close Enough