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Vol regimes from zero

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Section 1

What is a vol regime?

Volatility doesn't just bounce randomly. It clusters into persistent regimes — extended periods where vol behaves in a consistent way.

A vol regime is a market state characterized by three things: the level (high or low), the behavior (trending, mean-reverting, or jumping), and the dynamics (how vol responds to spot moves).

The four main regimes:

Low Vol (30-45%) — Range-bound, grinding, low realized vol. Options bleed theta. Cheap to buy vol but it keeps decaying.

Normal Vol (45-65%) — Healthy trends, moderate swings. No persistent edge for buyers or sellers.

High Vol (65-90%) — Fast moves, elevated fear. Options are expensive but the realized moves justify it.

Crisis Vol (90%+) — Panic, capitulation, gaps. Anything goes. Selling vol here is extremely dangerous.

The key insight

One of the most robust empirical findings in finance: volatility clusters. High vol days follow high vol days. Low vol days follow low vol days. Regimes persist before they transition. The transition is sudden but the regime is sticky.

Section 2

Low vol: compression

In low-vol regimes, the market grinds sideways or drifts slowly. Realized vol is low, implied vol compresses toward the bottom of its historical range. It feels calm — sometimes dangerously calm.

What you see: BTC IV at 30-45%. Small daily ranges. Options decay faster than they pay off. Vol sellers are profitable. Vol buyers bleed theta day after day.

The trap: Low-vol regimes breed complacency. The VRP (IV minus RV) compresses or even turns negative — meaning implied vol is barely above realized. Sellers get thinner and thinner premiums. Then the regime breaks.

The opportunity: Buying vol is cheap precisely when nobody wants it. If you can identify that a low-vol regime is about to end (macro catalysts, options positioning, falling open interest), long vol positions are asymmetrically rewarding.

Vol compression indicator
IV Percentile = rank of current IV vs last 252 days
When IV percentile is below 10%, you're in a compression regime. Options are historically cheap. The question is timing — cheap can stay cheap for months.
Section 3

High vol: expansion and crisis

High-vol regimes are fast, violent, and psychologically demanding. Realized vol validates or even exceeds implied vol. The VRP can disappear or invert.

High vol (65-90%): Markets move fast. Daily ranges of 5-10% become normal. Options are expensive but the moves are real. Selling premium is risky because vol can stay elevated for weeks.

Crisis vol (90%+): Panic. Capitulation. Price gaps. Realized vol can exceed implied vol, meaning even "expensive" options were actually cheap. Selling vol here can be career-ending.

The GARCH persistence effect: After a vol spike, the GARCH model tells us vol won't instantly normalize. High vol today means elevated vol tomorrow. The half-life of a shock determines how long the regime persists.

GARCH(1,1) — volatility clustering
σ²t = ω + α·ε²t-1 + β·σ²t-1
Tomorrow's variance depends on today's surprise (α) and today's variance (β). When α + β is close to 1, shocks persist a long time. Typical values: α ≈ 0.1, β ≈ 0.85 → α+β = 0.95 → shocks persist for weeks.
Section 4

Mean reversion

Despite clustering, vol always eventually reverts to its long-term average. The speed of that reversion — controlled by the parameter κ (kappa) — is the key variable.

Ornstein-Uhlenbeck mean-reversion
dσ = κ(σ̄ − σ)dt + vol-of-vol · dW
κ = mean-reversion speed. σ̄ = long-run average. When σ > σ̄, the drift pushes vol down. When σ < σ̄, the drift pushes vol up. Higher κ = faster snapback.
Half-life of a vol shock
t½ = ln(2) / κ
How many periods until a shock decays to half its initial magnitude. If κ = 0.05 per day, half-life ≈ 14 trading days. Crypto vol typically reverts faster (higher κ) than equity vol.
Regime Timeline
Mean Reversion (κ)3.0
Half-Life58 days
Long-Run Vol55%

Drag the κ slider. At low κ, vol spikes persist — the path stays in the crisis zone for a long time. At high κ, vol snaps back to the long-run average quickly. This is the fundamental tradeoff:

Low κ (slow reversion): Regimes persist. Don't fight the trend. If vol is high, expect it to stay high.

High κ (fast reversion): Spikes are opportunities. Selling into elevated vol after a shock has a faster payoff because vol pulls back quickly.

Crypto vs equities

Crypto vol reverts faster than equity vol. Crypto's κ is higher, meaning shocks don't persist as long. A BTC vol spike from 50% to 100% might half-life back in 10-14 days, while an SPX spike from 15% to 40% could take 30+ days. This means crypto offers faster turnaround on mean-reversion trades — but also more whipsaw risk.

Where to go next:

Term structure — how mean reversion shapes the vol curve

Vol surface — the complete picture

Vol regimes course lesson — the full course module

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