IV in Option Premiums

[Giri89]

Hi guys,

I have a question about the IV component in options. I have a view on what I believe will be the IV on an option for a particular stock which will be expiring shortly. If i believe that the stock will fall and that IV will be 25% for the remaining life of the option, should I be trying to purchase options with an IV below that and selling those that are higher? Also should I be looking for positions with an overall value for vega which is positive?

However I'm confused by the fact that deep ITM options have incredibly high IV's yet all of their premium appears to consist of intrinsic value. So if I were to act on what I stated above, I would be selling very deep ITM options and buying ATM/OTM options. Obviously I would very likely lose money on this trade as price would not move far enough to make the deep ITM options become OTM. If i hedged and became delta neutral, is it possible to make money of such a trade? I'm guessing the answer is no as there is no extrinsic value in these deep ITM options ... so why the high IV's??

I'm sorry if this is a really stupid question but it has me confused.. =/

Any help on this would be greatly appreciated.

 

[Martinghoul]

Consider the following truth that is a simple consequence of put-call parity: deep ITM call is essentially the same thing as a deep OTM put.

Once you realize this, it should answer your question of why the ITM options have such high IV. Moreover, you should be able to come up with an idea on what sort of a position suits your view.