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Open Interest and Price Analysis

Open Interest is applicable to both futures and options. Open Interest data is One of the key aspects that analysts and traders monitor while monitoring the market. Open Interest is the number of open options contracts available to trade. i.e. OI refers to all positions that are still open. So if any fresh trade is executed, the Open Interest increases and if any trade is closed, the Open Interest decreases. Open Interest indicates the direction in which a contract is trending. The number of Open Interests keeps changing throughout the trading hours as the traders buy and sell contracts.

  • When a trader makes afresh entry in the F&O market, Open Interest goes up

  • When an existing position holder squares off with the entry of a new trader, open interest remains unchanged

  • When two existing position holders square off their positions we see open interest go down

Long story short, if the Open Interest of contract keeps expanding as new participants keep initiating fresh positions in the contract.

The majority of traders observe nifty open interest to understand the market movement. The OI shifts help the traders by giving them interesting hints on markets that are looking to take positions in equities. When interest starts building up in stock, it indicates that there is an increase in the OI of the stock as there are more fresh investors are taking positions in the stock. On the other hand, declining open interest acts vice versa.

Why Is It Important To Understand Open Interest

Tracking Open Interest helps you to understand the expected trend of the market in the future. Open Interest helps you to measure the flow of money into the derivatives market. So, an increase in Open Interest means money is flowing into the market. And a decrease in Open Interest means the traders are selling their positions to liquidate.

You can know how many contracts are open and are actively traded in the market. The most active contract offers more liquidity. If you trade a highly liquid option, it’s easier to switch positions in the market.

Higher open interest means higher activity and high trader’s interest in a particular strike price of an option.

What Can High Open Interest Indicate About Options?

Open interest—the measure of active contracts in a derivatives market—is a useful tool for determining investor interest in an option and for assessing liquidity. On its own, however, open interest cannot predict price action. When paired with other measures like volume and the price of the underlying asset, open interest can be used to understand trends in the options market.

Open Interest and Price Analysis

To derive more nuanced information about market movement from open interest, compare it to the price of the stock underlying the option. As the price of the underlying security is increasing, high open interest indicates that money is entering the market, new long positions are being taken, and the market is decidedly bullish. If the price of the underlying is decreasing and there is high open interest, that is an indicator that the bearish trend will continue, and traders may respond by taking short positions.

Decreasing or low open interest during a bull market indicates that investors are becoming uncertain of the strength of the bullish trend. The market top may be approaching and with it, a reversal in sentiment. Likewise, low open interest during a bear market indicates uncertainty and that the market bottom may be approaching. Generally, periods of low open interest are holding periods in which investors are trying to predict where the market will go before deciding on new strategies.

This is perhaps the best use of the OI data. When you compare the nature of the OI movement with the price trend, you get a clear idea of what is happening in the stock. Let us look at 4 such special situations.

1) If the Open Interest of the stock is rising and the price is also consistently rising, it is considered to be a healthy sign. It is a sign that investors are getting interested in the stock. High open interest simply indicates that the current market trend driving the underlying price is strong and it gives an indication that the market trend is bullish and the market is strong

2) How do you interpret the situation if the OI of the stock is rising but the stock price is falling? This is a clear sign that the market is weak. It indicates that fresh buying is not happening and the market trend is bullish

3) How do you interpret if the OI is falling but the price is rising? It basically means that fresh short positions are building up and market expectations of the stock are negative. It is a sign that the market trend is bearish and the Market is growing weak.

4) How do you interpret when the OI is falling and the price is also falling? Many cash market investors look at this as a positive signal. It indicates that the market is strengthening and the market trend is bullish.

By looking at the role of Open Interest and its importance, you may know by now that open interest (OI) is a very critical component to pay attention to in an options chain data. Open interest also gives you key information regarding the liquidity of an option to get in and out of the trade. Therefore, Open interest and Price analysis put together proves helpful for traders to understand the position of the market. It helps the trader to get an idea of whether the market is bullish or bearish and interpret the indications of the market strength.
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