Open Interest and Options Trading

By Stock Research Pro • June 4th, 2009

Open interest refers to the total number of outstanding contracts held by investors at the end of a trading day. The open interest measure (which can also be defined as the total number of open contracts on a given security that have not yet expired, been exercised or delivered) is used to monitor the flow of money into the futures market. Unlike stocks, where a fixed number of shares are traded, investors can initiate a new options contract by placing an option trade.

A Primer on Options Trading

An option is a contract between a buyer and a seller that provides the buyer the right (but not the obligation) to buy or to sell a particular asset (known as the underlying asset) at an agreed-upon price on a later date. The underlying asset may be shares of stock or some other security. The option seller collects a payment from the option buyer in exchange for granting this option. Call options provide buyers with the opportunity to buy the underlying asset, while put options grant the option owner the right to sell. If the buyer chooses not to exercise the option, the contract simply expires

Open Interest and Options Traders

Options traders may monitor open interest to gauge the intensity of trading in an underlying security. One use of open interest for traders is in comparing it against the volume of contracts traded to determine whether there is unusually high or low volume for any particular option. A day in which the volume exceeds the open interest, for example, suggests that trading in that option was exceptionally high for that day.

Increasing open interest suggests that new money is flowing into the market and that present trends will continue. Declining open interest would suggest the opposite; that investors are liquidating and the current price trend is ending. Understanding the basics regarding open interest can therefore help investors anticipate market turns.

The above information is educational and should not be interpreted as financial advice. For advice that is specific to your circumstances, you should consult a financial or tax advisor.

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