Hence, your view of IV being a "fudge factor" is very simplistic. Most everything that is traded in an option in fact is IV. (Of course you have other option inputs but you would trade specific dividend swaps or interest rate derivatives, for example, if you wanted to express a view on such inputs). The option price is just a translation in order to pay for the implied volatility that is traded.

Too many academics on this site. Hesitant to say anything lest I get downgraded en masse.

The statement above is bit far from correct.

1. Directional traders, even in the OTC space, who trade options do so if their expectation of their “mu” (actual trend) is different from the risk free rate. They are the guys providing the main liquidity to the options market across both liquid and illiquid option underlyings.

For these traders, who happen to be the majority of option traders, the IV part is often insignificant compared to their views on the difference between their expected trend and the risk free rate.

2. Volatility traders who are a relatively limited lot and focus mostly on the most liquid option underlying, trade options that are delta hedged to get an exposure to IV minus RV differences. Without the directional traders, there would be really limited or no market for the volatility traders to play in.

Yes, to a large extent IV can be a fudge factor. I have had 3 occasions in the past, where I had to negotiate some 5 year options on illiquid instruments where the bank quoted 30% and I had to negotiate it down to 20%.

For super liquid markets like S&P on the other spectrum, the IV is completely driven by supply and demand of the underlying options.

For example, even “IV” indices like VIX, OVX etc are not averages of any implied IV —— they are instead weighted averages of actual traded option prices.

It’s only the FX space, where you have banks quoting IV directly — and that’s a characteristic of that market , because of needing to quote OTC exotics like barriers and any random strike if needed , where it’s more continent for the banks to deal with IV rather than standardized strikes.

In general,

1. the more listed the market, the more supply and demand (option prices) drive the IV. Not uncommon to see illiquid stocks with huge bid and ask IV where the market maker has limited clue on the true IV and just throwing out quotes that wide enough to not get it.

2. the more OTC the market , and hence non-standardized, the more IV will drive the option prices

Hence, your view of IV being a "fudge factor" is very simplistic. Most everything that is traded in an option in fact is IV. (Of course you have other option inputs but you would trade specific dividend swaps or interest rate derivatives, for example, if you wanted to express a view on such inputs). The option price is just a translation in order to pay for the implied volatility that is traded.

Too many academics on this site. Hesitant to say anything lest I get downgraded en masse.

The statement above is bit far from correct.

1. Directional traders, even in the OTC space, who trade options do so if their expectation of their “mu” (actual trend) is different from the risk free rate. They are the guys providing the main liquidity to the options market across both liquid and illiquid option underlyings.

For these traders, who happen to be the majority of option traders, the IV part is often insignificant compared to their views on the difference between their expected trend and the risk free rate.

2. Volatility traders who are a relatively limited lot and focus mostly on the most liquid option underlying, trade options that are delta hedged to get an exposure to IV minus RV differences. Without the directional traders, there would be really limited or no market for the volatility traders to play in.

Yes, to a large extent IV can be a fudge factor. I have had 3 occasions in the past, where I had to negotiate some 5 year options on illiquid instruments where the bank quoted 30% and I had to negotiate it down to 20%, and the main objective was to limit the option premium.

In the OTC space, exotics like Barriers, worst of options etc, all exist to lower the price of options. Price (demand, supply) is definitely more important.

For super liquid markets like S&P on the other spectrum, the IV is completely driven by supply and demand of the underlying options.

For example, even “IV” indices like VIX, OVX, TYVIX etc are not averages of any implied IV —— they are instead weighted averages of actual traded option prices.

It’s only the FX space, where you have banks quoting IV directly — and that’s a characteristic of that market , because of needing to quote OTC exotics like barriers and any random strike if needed , where it’s more continent for the banks to deal with IV rather than standardized strikes.

In general,

1. the more listed the market, the more supply and demand (option prices) drive the IV. Not uncommon to see illiquid stocks with huge bid and ask IV where the market maker has limited clue on the true IV and just throwing out quotes that wide enough to not get it.

2. the more OTC the market , and hence non-standardized, the more IV will drive the option prices