INSUBCONTINENT EXCLUSIVE:
Open interest (OI) in futures and options (F-O) trading is one of the key parameters in determining price range of an underlying asset and
interpreting the market sentiment for it
In this edition of Classroom, ET explains the significance of interpreting OI in relation to gold derivatives.
1
What is open interest in the commodity F-O market?It refers to the outstanding, or open, position of traders on a futures or options
What are futures and options contracts and how is OI calculated ?A futures contract involves the purchase or sale of an underlying asset
(say, gold) at a fixed price for delivery on a future date
If you are a buyer (trader A) and bullish gold, you buy 2 futures contracts
Another trader (B) similarly buys one contract
Now, a trader C sells them (A -B) all the three gold futures contracts
There are a total three contracts on buy and three on sell
If trader C wants to transfer 2 contracts, she buys them back from trader D
The total OI is still three because trader A has 2 long positions, B has 1 long position, C has 1 short position and D has two short
So, total OI is still 3 as no fresh positions are created
If D wants to sell two more contracts and A buys one and C, who wants to close out her sole short position, buys one from D, the total OI
rise above the level sold plus premium received from the buyer, therefore being less bullish
In the case of calls and puts, one looks at put-call open interest ratio to gauge the market mood
This will be dealt with in the next Classroom edition.
3
What is the relationship between OI and price?There are four relationships that give a trader a clue into market sentiment by OI-price
Rising price accompanied by increasing OI signifies bullishness
Falling price along with increasing OI implies bearishness
Rising price accompanied with decreasing OI denotes short covering
And, falling price and falling OI means long or bullish positions are being liquidated.
4
Illustrate how looking at options one can arrive at a price range over a certain period?
Take front month gold options on MCX whose
underlier is the gold futures contract
On Monday intraday, the front month futures price was ?38,185 per 10 gm (contract size of gold is 1 kilo)
The resistance based on gold call option with highest OI is ?39,000
The support based on gold put with highest OI is at ?38,000
