Confused on how open interest works

R

Renegen

I'm in a pickle here as I'm thinking about the open interest and about the bid - ask process.

Ok here it goes:

When does open interest go up or down?

Let's say that I buy 1 contract in may crude.

Does open interest go up by 1?
This to me makes no sense because of the bid - ask process. Every time you enter a contract the exchange is on the other side of the trade, who is setting the bid and ask then, the exchange? Do they act as market maker?

Or are you buying from traders everywhere, in which case the open interest stays the same, but the volume goes up by 1 as a contract was flipped from one trader to another.

In that case, when does the magic open interest change?

Is someone who is making a physical delivery "selling" a contract the same as me shorting a contract? I think it is but how do they enter the market?
 
The short answer is it depends.

The long answer is if you buy a contract from someone that is selling one to enter a position AND you are buying to enter a position then yes it goes up by one. If you buy from someone that had already bought and is closing a position and you are opening a position then it stays the same. If you are buying to close from someone selling to close then it goes down by one. You never know when you buy which will happen.

At least this is how I understand it. It may not be 100% correct but the key thing I watch for in open interest is that I never want to own more than 10% of the total open interest in any contract.
 
Hmm it seems pretty clear the way you explained it!

But what about this hypothetical scenario.

A farmer decides to hedge his crop for next year so he open some new positions and sells some future contracts. But there is no one willing to be on the other side! What does our poor farmer do then, since the futures market was created for him after all.

What if the future buyer doesn't want to commit but prefers to wait and see, as in the case of markets where you have both a spot market and a futures market. (oil again as an example, correct me if I'm wrong)

Then the producer can't hedge and he's screwed?


Also, lol about the 10% open interest part. :cool: You can't be serious, can you? :eek:
 
Quote from Renegen:

Hmm it seems pretty clear the way you explained it!

But what about this hypothetical scenario.

A farmer decides to hedge his crop for next year so he open some new positions and sells some future contracts. But there is no one willing to be on the other side! What does our poor farmer do then, since the futures market was created for him after all.

What if the future buyer doesn't want to commit but prefers to wait and see, as in the case of markets where you have both a spot market and a futures market. (oil again as an example, correct me if I'm wrong)

Then the producer can't hedge and he's screwed?


Also, lol about the 10% open interest part. :cool: You can't be serious, can you? :eek:
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If no one is willing to take the other side of any trade, then nothing gets bought or sold.

I am dead serious about the 10%. If you have 10 contracts and the total open interest is 40 contracts then you ARE 25% of the market. If you decide to liquidate your position and drop 25% of the market into the Ask column what do you think is going to happen to the price?
 
Hmm , thanks. I guess there's always speculators out there ready to bet from the get go and that allows others to hedge.

Of course, you're right about the 10%, except that in many cases the total open interest is many times above 40 contracts :D
 
Quote from Renegen:

Hmm , thanks. I guess there's always speculators out there ready to bet from the get go and that allows others to hedge.

Of course, you're right about the 10%, except that in many cases the total open interest is many times above 40 contracts :D
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Yes someone has to be bold enough to make the first move but if they do and no one else follows they might very well get stuck in a position they can't get out of.

I just used those numbers for demonstration purposes.
 
Open Interest, unless I am incorrect, is simply the # of ppl willing to hold a contract overnight. Generally as I was taught is the increasing OI is considered bullish as long a price is increasing. The reason being is that ppl that are bullish are willing to hold overnight for the bigger $$$.

There are 2 guys whom are very good with price volume and OI, which all three work together. I am not affiliated with either BTW they have both done good by me. One is Jason Jankovsky and the other is Ken Shaleen. Shaleen even has a few free webinars floating around the web on CBOT CME and Jason has a 2 week trial for $5, it's a real good deal. The only reason I stopped is don't trade forex and currency futures much. He has a whole video dedicated to price, volume and OI that you can access for the $5. Both stand up guys.

Good luck.
 
Quote from dandxg:

Open Interest, unless I am incorrect, is simply the # of ppl willing to hold a contract overnight. Generally as I was taught is the increasing OI is considered bullish as long a price is increasing. The reason being is that ppl that are bullish are willing to hold overnight for the bigger $$$.

Good luck.
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OI is the number of open contracts period. There is no way in the world, for what amounts to a market indicator, to know when a person plans on closing the contract in advance.

Like I said above:
If the trade results in a new contract being created (both parties are trading to enter a position) then OI is increased by 1.

If the trade results in a contract being closed (both parties are trading to exit a position) then the OI is decreased by 1.

If a contract is transfered from one person to another (1 person closing a position and one person entering) then the number stays the same.
 
I am dead serious about the 10%. If you have 10 contracts and the total open interest is 40 contracts then you ARE 25% of the market. If you decide to liquidate your position and drop 25% of the market into the Ask column what do you think is going to happen to the price?



Just ask Amaranth, when you make up too much of the open interest of a vehicle, exiting can be a bitch, especially when word gets out, and with that small market back then, as far as big participants, you have no veil in which to manuever, there is no quiet handing off to "bagholders"!
 
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