[FIRE'd@51]

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Originally Posted by Olav23 Since it sounds like you have dealt with options a lot more than me, how often is the case where implied volatility is higher than the realized volatility? Is this generally the case? Or does it happen when volatility is picking up and people get overly anxious, thereby overshooting the implied volatility? Is this a usual occurence or some data-mining/cherry picking that occured over the past 20 years? I guess my question is, is it statistically significant or more of something that averages itself out over time?

Very good questions. My guess is that it will average out over time, and that market makers will underestimate future volatility as often as they overestimate it. As you know, volatility is impossible to predict. I think there are overshoots at times due to fear. People who sell volatility just after an event like the 1987 crash make a lot of money. However, implied volatilities were very high just before the 1987 crash, and many people sold volatility then only to blow themselves up. After 1987, options sellers were able to command (and option buyers willing to pay) higher premiums (implied volatilities). The point of my post was to point out that this was the source of the BXM outperformance. Whether this bias will exist in the future is anybody's guess. Theoretically, on the basis of expected return arguments, one would expect BXM to underperform the S&P 500.