How to use Open Interest in trading

Open Interest Chart for NSE Reliance

When a person sells a Nifty Futures/Option contract and a another person buys a Futures/Option contract then a trade is made in that particular contract and this trade counts as 1 Open Interest. So when OI increases it means contracts are added and when OI decreases it means contracts are squared off.

 

OI analysis is a very important in trading, OI shows the overall direction of the market and probable range of the market. As Futures and options are traded by professional it is advised to keep track of OI while trading. At BigPaisa we will help you to understand OI activity by a simple table.

 

How to analyze the Futures Open Interest?

  1. Increase in open interest shows that more number of contracts are added and there is increase in money flow. It shows that the price trend is likely to continue.
  2. Decrease in open interest shows that price trend is likely to come to an end and to be cautious for the next move.

Below table shows how to use open interest for your trading.

Price

Open Interest

Market Interpretation

Increase

Increase

Market is Strong. More traders are on long side

Decrease

Decrease

Traders are squaring off their Long positions. (Long Unwinding)

Decrease

Increase

Market is weak. More traders on short side

Increase

Decrease

Traders are squaring off their short position. (Short Covering)

 

How to analyze the Options Open Interest?

Analyzing Options Open Interest is bit tricky and interesting. As you know options has time decay effect, it means options will be worthless if the price doesn't move according to the option.

Buying options requires you to pay only premium and Selling/Writing options needs high risk capital and good margin. It is been observed that only professional traders and institutional traders get involved in Selling/Writing options and retail traders or less informed traders are buying options assuming it as less risky instrument with high profit and by selling options one will get only premium with unlimited risk. But most of us will make little effort to understand the time decay effect on option contract.



So Professional / Institution traders with all the knowledge of market will sell options for limited rewards and most of the contracts will never be exercised and they get the whole premium.



At BigPaisa we will help you to analyze the options open interest by using this simple chart.



Let’s understand it by analyzing the below chart.

On close of 5-Feb-2018 Reliance is trading at Rs 907 rupees and you can see highest Call Options are sold at 1000 CE and highest Put options are sold at 900 PE.

As I described earlier options are sold by professional/institutional traders and now they expect Reliance price will not cross above Rs 1000/- till this month expiry (22-Feb-2018). Highest PUT are sold at 900 PE it indicates that reliance may find some support near this price. Around 5 Lakhs of OI is added to 900 CE and it is bit worrying for bulls.

 

Open Interest Chart for NSE Reliance

 
I would like to suggest to watch Options OI chart for one month and understand the stock price movement, time decay and options expiry price.

 

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