What Is Open Interest?
Let me explain open interest directly: it's the total number of active derivative contracts, like futures and options, that are still outstanding and haven't been settled yet. These are positions where traders have buys or sells open and haven't closed them out. When you look at the open interest for a specific contract, it tells you if money is flowing in or out, giving a clear view of the contract's liquidity and how much interest there is in it right now.
Key Takeaways
Open contracts are those that haven't expired, been exercised, or closed out—they're derivative contracts like options or futures waiting to be settled. If open interest goes up, that means new money is entering the market; if it drops, money is leaving.
Understanding Open Interest
You see open interest most in futures and options markets, where the count of open contracts shifts every day. It's simply the number of contracts traders are holding in active positions that haven't been closed, expired, or exercised. Open interest drops when buyers and sellers close more positions than they open that day—to close, you take an offsetting position or exercise the option. It rises again when new long positions or short positions exceed the closures. Take this scenario: suppose open interest for an ABC call option starts at zero. A trader buys 10 new contracts, so it jumps to 10. Next day, five get closed but 10 more open, pushing it to 15.
Don't fall for the myth that open interest predicts prices—it doesn't. It just shows trader interest and sentiment, nothing more.
Open Interest vs. Trading Volume
People mix up open interest with trading volume, but they're different. Say one trader sells 10 option contracts to another new trader—that's a transfer, so open interest stays the same because no positions opened or closed. But trading volume goes up by 10 from the transaction.
The Importance of Open Interest
Open interest measures market activity—if it's low or zero, there are few opening positions or most are closed, meaning little action. High open interest means lots of contracts are open, so participants are paying close attention. It tracks money flow: increasing open interest shows new money coming in, decreasing means it's going out. For options traders, this is key for liquidity—high open interest lets you buy and sell easily and quickly, while low makes it harder to enter or exit positions.
Example of Open Interest
Consider trading activity among traders A, B, C, D, and E in the options market. On January 1, Trader A buys one option to open from B, so open interest rises by one. January 2, C buys five to open from D, making it six total. January 3, A sells one to close to D, dropping it by one. January 4, E buys five to open from C, who closes the five bought from D earlier. The key here is tracking whether trades open or close positions to calculate the changes.
Is Higher Open Interest Better?
Higher open interest typically means better liquidity for the contract, narrowing the gap between ask and bid prices, which makes trading smoother. If it's rising, that suggests the current market trend around that option will likely keep going.
Is Open Interest Bearish or Bullish?
Rising open interest often signals new buying and a bullish trend, but if it gets excessively high, it might warn of a bearish shift or trend reversal.
What Happens When Open Interest Increases?
An increase usually means new money is entering the market for that option, sustaining the current trend. A decrease signals liquidation and investors exiting, often ending the price trend.
The Bottom Line
To wrap this up, open interest is the count of open derivative contracts not yet settled, exercised, or expired—it's tied to options and futures, not stocks. It equals the number of open contracts, not total transactions. Rising open interest brings new money in, falling means it's leaving, but remember, it's not a tool for spotting trends or predicting prices.
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