Open Interest
Open interest is a term used in futures and options, and is a count of the number of contracts outstanding. At the end of each day there are many future commitments represented in futures contracts, and these all represent transactions that must take place some time. Open interest is commonly plotted as a line under the price chart but above the volume bars, or it can be overlaid on the volume or price charts. Below you see the open interest line, in pale blue, over the darker blue volume bars. This is a chart of Light Sweet Oil futures.
You can see how typically the open interest dips down at the contract expiration dates, which are shown by red dashed lines. Obviously, contracts are often settled at those times, so the number of open contracts reduces.
As noted above, official volume and open interest figures are reported one day late and therefore are lagging by one day. So on a daily basis, you can plot the high, low, open, and close for the price, but the volume and open interest numbers are for the previous day and price bar or candlestick.
One point it is very important to note is that the open interest represents the total number of longs or shorts outstanding, and not the sum of them. Open interest is the number of contracts, and each contract has both a buyer and a seller, so two market participants make only one contract. The change in the total open interest figure each day, whether up or down, is an important indication of the mood of the market.
Now here’s another complication with open interest. Every time there is a trade in the particular futures contract, it can affect the open interest in one of three ways – the open interest can increase, it can decrease, or it might stay the same. It all depends whether either trader was already in the market, and is just getting out of the position, or whether it is a new position for them.
The open interest will stay the same if one of the parties to the contract is liquidating an old position, which to the other party is a new holding. Effectively it’s the same contract with a different owner. The seller can sell an existing long position to the buyer who wants to open a long position. The same with a short position, except the seller is the one entering the new (to them) contract because it’s short – you buy long and sell short.
If both traders were not in a contract before, then the buyer would buy a new long and the seller would sell a new short, increasing the open interest by one. As noted above, this is one contract with two participants.
If both traders were already in a contract, one long and one short, and they wanted to liquidate their positions, then the total number of contracts will decrease by one. So when you look at the open interest each day, and whether the total number of contracts has increased or decreased, you are getting a strong sense of how much money is flowing into or out of the market.
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