This episode explores the CBOE skew (SKU) index, a market indicator reflecting market participants' preparedness for potential downside risk. Against the backdrop of the Black-Scholes model's limitations in capturing real-world market asymmetry, the discussion delves into the concept of skewness in financial distributions. More significantly, the speakers explain how the SKU index, constructed using a portfolio of options, approximates the market's skewness, with higher values indicating greater preparedness for a significant downside move. For instance, the speakers note that while the index historically ranged between 100 and 150, recent years have seen it fluctuate between 135 and 180, reflecting a shift in market perception of risk. The hosts emphasize that a high skew index doesn't predict a crash but rather signifies that the market is well-hedged against potential large downside events. In contrast to viewing it as a "fear index," they propose it's more accurately a "preparedness index." This nuanced understanding of the SKU index offers valuable insights for options traders, highlighting the importance of adjusting risk assessments based on market preparedness rather than solely relying on normal distribution statistics.
