Open interest and bullishness – Option Trading FAQ

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How to Trade Open Interest Options

Watch our video on the importance of open interest options and volume when trading.

What is Open Interest in Options (OI) With Example?

  1. Here’s what open interest in options means with example:
  2. OI is the total number of open options contracts.
  3. Look for high OI when trading. Minimum 100 contracts, ideally 1000+.
  4. Example: $DIS: OI = 4317 & $DIS OI = 38.
  5. More open contracts at 4317 then at 38, which equals more interest.

What is open interest options? OI shows the amount of open options contracts. It’s a major component when looking to purchase an options contract. The video above shows how to find OI on an options chain and goes over its importance when trading options.

OI options are the total number of options held by traders at the end of the day. You can also define it as the number of options contracts that haven’t expired or been exercised.

With stocks there’s a set amount of shares being traded. Options are different because people can write their own options contracts.

OI lets you know the shares that have been traded but are still open. Volume is also an important component to this.

Volume gives you the strength of market direction. Options volume and OI work together.

1. Basics of Open Interest Options

OI is something traders don’t pay much attention to. It may not affect the options price or volume but it provides important information. The information it provides is something to consider when purchasing an option.

Look at OI relative to the volume of contracts traded that day. If the oi exceeds volume on a trading day it tells you trading that option was popular that day.

Another thing oi can tell you is the liquidity of the option. If an option has a big OI it means there’s a lot of buyers and sellers.

This increases the odds of getting your orders filled at a good price. The bigger the oi the better the bid ask spread will be for you. We can’t stress enough the importance of paper trading options.

The more open interest in an option, the more volume, the more you can profit

2. Trend Confirming

OI confirm trends. When open interest increases you know new money is flowing into the market. A result of increased open interest means the present trend continues.

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That can mean is going up, down or sideways. If OI is declining, you know that a trend is coming to an end. The market is liquidating.

A leveling off of OI is letting you the market can no longer sustain the trend. A correction or reversal is coming. Knowing how to sell options is key.

An increase in price and oi confirms an upward trend while a decrease in price and OI confirms a downward trend. While a decrease or increase in price when OI stays the same tells you a trend reversal is coming.

What is the Difference Between Volume and Open Interest?

  • Volume and open interest options are different but share an important relationship. When you use open interest and volume together, volume is telling you the total number of shares or options contracts that changed hands in one day. The more options traded the higher the volume. When there’s more volume we can expect the existing trend to continue.

You can use this information when you’re buying or selling a call or put. We teach you how to trade options live each day in our trading rooms. Take our free courses if you need more stock training.

Here’s an options chain for NFLX. The OI tells you the interest in bid ask spreads and expiration dates

1. Price Action

Price action has a lot to do with OI options. Just like increasing price action with increasing oi shows a bullish trend; price action can tell more (check out our stock market basics page).

If price action is going higher but OI is falling, shorts are covering their positions. Sellers covering their positions is causing a short term rally. But this means money is leaving so that’s a bearish sign.

If price action is down but open interest is rising, a trader will know that new money is coming into that sector or market. This is because there are new short sellers.

OI coupled with price action can tell you a lot about trends. Use the volume and OI trading strategy to find bullish or bearish plays.

Is High Open Interest Good or Bad?

  • Is high open interest good or bad with options? Typically higher open interest is good because it signals more interest in that particular strike price, which also means it’s easier to get in and out of the trade. However, sometimes lower open interest might be a good fit if you have trend right to get lower entries and more potential contracts.

Bottom Line on Open Interest Options

OI confirming indicator. You don’t need a chart to use this indicator to confirm a trend. Although a chart is going to give you much more information. You can use it whether you’re swing trading or day trading options. Take our options trading course to learn more.

Using Open Interest Can Help You Identify Stock Market Trends. Here’s How

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Last Updated on March 26, 2020

Open Interest (OI) is the number of contracts outstanding in the marketplace. Open Interest only applies to futures and option contracts. Changes in open interest may confirm price action or act as a warning of a potentially weakening trend.

A hypothetical situation is given next to help grasp the concept of Open Interest:

  • A new futures contract expiration month is opened for trading. Currently, no one has bought or sold a futures contract.
  • A trader (Trader #1) buys a futures contract, but in order for this to happen, someone has to sell that trader the future. Therefore, for every buyer there is an equal and opposite seller (Trader #2). When this transaction occurs, the open interest is increased from zero to one. There is now one contract outstanding in the marketplace.
  • Trader #3 decides to sell a future and subsequently another trader (Trader #4) has to buy that futures contract; therefore, open interest is now at two.
  • Trader #1 goes to the marketplace and sells his/her futures contract. Trader #3 decides to buy back his/her short future. After the transaction takes place, Trader #1 no longer owns a futures contract. Similarly, Trader #3 no longer owns a futures contract. Effectively, the marketplace has one less futures contract outstanding. The open interest went down to one.

Generally open interest increases over the life of the futures contract (note: futures contracts expire, same with options). When futures contract months or quarters transition from one month or quarter to the next month or quarter, the future closest to expiration (called the “front month”) decreases in open interest and the next futures contract (called the “back month”) increases. This is shown with the chart of the E-mini S&P 500 Futures contract above.

Also note the dramatic decrease in the open interest of the March S&P future as the contract is nearing expiration. In contrast, note the dramatic increase of the June S&P futures contract as futures traders “roll over” their futures positions to the next futures expiration contract (June).

Interpreting Open Interest is up next.

The information above is for informational and entertainment purposes only and does not constitute trading advice or a solicitation to buy or sell any stock, option, future, commodity, or forex product. Past performance is not necessarily an indication of future performance. Trading is inherently risky. Commodity.com shall not be liable for any special or consequential damages that result from the use of or the inability to use, the materials and information provided by this site. See full disclaimer.

Interpreting Open Interest

Open Interest is a helpful tool in analyzing the strength of a price move. There are four main interpretations of Open Interest:

  • If price increases and open interest increases, then there is strength behind the price move higher.
  • If price decreases and open interest increases, then there is strength behind the price move lower.
  • If price increases and open interest decreases, then there is weakness behind the price move higher.
  • If price decreases and open interest decreases, then there is weakness behind the price move lower.

The chart below of the Dow Jones Industrial Average mini-Dow futures contract illustrates two examples of price increases with corresponding increases in open interest:

In the chart above of the mini-Dow future, there is a strong increase in price with an equally bullish strong increase in open interest.

Notice that after the first sharp run up, open interest decreased during the price retracement. Seemingly, there was not much strength behind the price decrease.

The second strong bullish green candle occured with a sharp increase in open interest, interpreted as a strong bullish signal that price increases might occur in the future.

The Beginner’s Guide To Option Open Interest

The beautiful thing about the options market is that it’s as big or as small as we (the traders) make it. When it comes to open interest, each expiration starts with the same amount of contracts – ZERO .

What Is Open Interest?

Simply put, option open interest is the open number of contracts that remain for an expiration month. This includes contracts that have not been exercised, offset, or expired.

It’s pretty standard that beginning traders confuse open interest with volume. As a stock trader, you only really have a single measure of liquidity and activity which is volume.

However, as options traders, you have to consider both volume, AND open interest as the truth is that they are completely different data points.

Open Interest Only Increases With New Contracts

When traders create brand new contracts, which did not previously exist, option open interest will increase. This means that a new buyer must take a long position and a new seller must take a short position. Together they create a new contract in the market.

Open interest can decrease if both the buyer and the seller close their existing position. In this case, the single contract that they had between each other would terminate and reduce the market’s open interest.

Let’s Go Through An Example

So, in this example, we have five traders who are labeled A, B, C, D, and E.

Trader A decides to buy a contract at the same time that Trader B decides to sell a contract = the result is the creation of a single brand new contract.

Trader C later also decides to buy five contracts at the same time that Trader D decides to sell five contracts = just like the transaction between A and B, the new agreement creates five brand new contracts. Now the total is six open contracts.

After two days of trading A decides to sell his contract. At the time B is not willing to sell his contract, but D is prepared to sell one of his five = this results in a valid transaction and the closing of one contract. Open interest drops to five.

Finally, Trader E comes into the market and decides to buy five contracts from C. Trader C already owns the contracts, so his sale will help fund the purchase for E = since there is no newly created contract, open interest remains the same.

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The Only Benefit of Open Interest

In reality, the only real benefit I see in open interest is the ability to trade a more active contract. The increased liquidity helps fill orders faster and at smaller bid/ask spreads. If you’ve ever traded an illiquid option or stock, you know first-hand how hard it is to get out of the position (let alone at a decent price).

Some people incorrectly assume that higher open interest means smarter traders – not right. Higher open interest just means that – higher activity and interest in the particular strike. Remember that one contract means you have a buyer AND a seller and they both can’t be THAT smart.

I Understand Open Interest – How Does it Fit With Volume?

If you’ve followed me this far, you probably have a real good idea about what open interest is and isn’t. Just for the sake of clarity let’s make sure you still understand volume as it relates to options trading.

For options, volume is simply the raw number of contracts that have changed hands on a particular day. This is irrelevant of whether a new contract was created or not.

This might explain why you might see a large volume of say 10,000 contracts on the day but open interest of just 5,000. Well, that’s because some of the contracts that were traded must have been closed out before the end of the day.

What does it mean if there is no Options Open Interest?

I lot of people have asked what it means if there is no open interest showing up in any of the contracts. The reason that there is no open interest showing up sometimes is that open interest is calculated after the close of every trading day. It’s recalculated for the next day. Whenever you see open interest on the platform, it will be for the last trading day.

In a case where the contracts just started trading today, there will be no open interest because there’s nothing before today trading. But if you wait a day or two you’ll start to see some of the numbers flow over into the open interest category and they’ll start to build up some open interest.

Check this topic out in more detail by watching our free video here.

If you sign up to our Watch List, you can see all trades and their open interest to help you make your choices and have a look at our Answer Vault for questions other people have asked about open interest.

Tracking Open Interest

I’m going to leave this question in the comments section below. Most traders think that open interest is always posted live on the quotes tab of your broker platform – but that’s incorrect. It’s posted completely different that you might have thought before.

Take a stab at guessing why the final figures are not shown live throughout the day by adding a comment below.

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