Arbitrage Flags
Canonical definition, formula, interpretation, and API reference.
Definition
Butterfly and calendar spread violations in the vol surface. Free money if real, usually noise in liquid names.
Formula
Butterfly: d2w/dk2 < 0. Calendar: w(k,T2) < w(k,T1) for T2>T1
Where w is total implied variance.
Inputs
SVI-fitted variance surface
Output
arbitrage_flags[] with type, strikes, tenors
Interpretation
- Butterfly: smile has a dip - riskless butterfly possible
- Calendar: near-term has more variance than far - riskless calendar
- Real arb rare in liquid names, common in illiquid
API Reference
Endpoint
GET /v1/adv_volatility/{symbol}
Tier
Alpha+
Response field
arbitrage_flags[]
Why Arbitrage Flags Matters for Trading
TL;DR
Arbitrage flags are the diagnostic alarms on the vol surface. Zero flags = fit is clean. Many flags = fit is broken, surface is unusable.
- What it measures
- Binary markers raised when a vol surface fit violates butterfly (static arb) or calendar (time arb) constraints.
- What it signals
- Surface health. Used as a go/no-go for model-dependent trading.
- Why we measure it
- A vol surface that permits arbitrage produces wrong Greeks, wrong prices, wrong hedge ratios. Flags are the validity check.
- Who uses it
- Quant vol traders, market makers, exotic-pricing desks. ALPHA TIER.
How to read Arbitrage Flags
Zero flags
- Surface is arb-free
- Safe for exotic pricing
- Fitted Greeks reliable
- Core tradable state
Good for: any vol strategy
Many flags
- Fit is broken
- Raw quotes inconsistent
- Don't trust derived outputs
- Stale or crossed quotes likely
Bad for: any model-based trade
Few wing flags
- Most flags at deep wings
- Core surface fine
- Cap strategy to liquid strikes
- Typical mid-cap state
Tradeable with caution
Rules of thumb
- Zero flags = go; many flags = stop. Binary filter before any model-based trade.
- Wing flags are most common. Deep OTM quotes are crossed more often - flags cluster there.
- Pair with IV dispersion. Dispersion is continuous; flags are discrete. Use together.
- Event days raise flag counts. Earnings mornings often flag temporarily - fades by midday.
- Flags are tier-gated. Alpha-tier only. Without them, you're flying blind on surface quality.
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