Volatility Smile

A volatility smile is what appears when the implied volatilities of options on the same pair, with the same expiry, are plotted against their strikes. If a single volatility described every strike, the line would be flat. It is not: strikes away from the current rate usually carry higher implied volatilities than strikes near it, and the curve that results is called a smile — or a smirk, when it leans clearly to one side. The shape carries information about how the market prices unusual outcomes. A flat line would say that, relative to a standard model, the market treats a large move as no more likely than that model assumes; the smile says otherwise, and it is generally read as the market paying up for protection against moves the model would call rare. The shape is not fixed. It changes over time, differs between pairs and differs between expiries on the same pair, which is why it is something to describe rather than to predict. It is also a property of quoted prices, so the source publishing those quotes, and the conventions it uses, define the curve you are actually looking at.