The implied volatility smirk in SPY options

We provide a comprehensive study of the implied volatility (IV) smirk in the SPDR S&P 500 Exchange-Traded Fund (SPY ETF) option market. In general, the IV curves are downward sloping with little curvature, exhibiting an almost straight line. However, the shape of the IV curves becomes more curved during the global financial crisis (GFC) period, indicating that the commonly accepted IV smirk shape is driven by the GFC. In addition, based on in-sample, out-of-sample tests and asset allocation analysis, we show that the first difference of the slope factor can predict the next month’s SPY excess returns.