Open Interest in Future and Options Trading

 Open Interest

Open Interest in future and options trading signifies the total number of active contracts in the market. Unlike stock trading where there is a fixed number of shares in circulation, the total number of contracts in the Future and Options is variable. As new seller/buyer get into agreement, the Open Interest for a security derivatives changes on daily basis.

The changes in open interests is a good indicator of trading activity of the stock like sentiments, liquidity, trends and momentum. These stats are reported daily for the F&O stocks and indexes.

 

 Important consideration - Ban rules for F&O

At the end of each day the Exchange disseminates the aggregate open interest across all Exchanges in the futures and options on individual scrips along with the market wide position limit for that scrip and tests whether the aggregate open interest for any scrip exceeds 95% of the market wide position limit for that scrip. If yes, the Exchange takes note of open positions of all client/ TMs as at the end of that day in that scrip, and from next day onward the client/ TMs should trade only to decrease their positions through offsetting positions till the normal trading in the scrip is resumed.

The normal trading in the scrip is resumed only after the aggregate open interest across Exchanges comes down to 80% or below of the market wide position limit.

Open Interest Scenarios

• The open interest increases along with the price rise, it signifies a bullish trend. It means new contracts are being written with aggressive buying.

• The open interest is increasing but the price is falling it means new Short positions are being created. Till the time this trend continues it is bearish signal.

•  In case of increase in both price and OI over a consistent trading days, followed by flattening/consolidation in OI. The trend signals an immediate Top for Price.

• Rising Price and lower OI is a sign of Short Covering. Rising price may not be due to fundamental changes but may be due to past short positions being covered. One reason could be that due to sudden jump in OI, the security was put in ban for F&O trading (refer above). During the ban, no new long position can be created but only old short positions can be covered.

• Falling Price with Significant increase in OI signifies Short Position build-up. As long as this trend continues it is a bearish sign, but once the short covering starts, it turns bullish.

• When both the OI and Price fall, it means long positions are being unwinded by traders. As long as this trend continues, it is a bearish sign. Once open interest stabilizes at a low level, the liquidation is over and prices are in a position to rally again.

• The below example shows that a breakout from resistance/support will be much stronger if open interest rises during the consolidation phase. Greater the rise in open interest during the consolidation, greater the potential for the subsequent move.

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Reference: https://www.nseindia.com/products-services/equity-derivatives-position-limits