The Power Of Open Interest (OI) in Options Trading Has Just Gone Viral in 2023 - Profile Traders
Updated: Aug 21
If you know how to use 'Tradingview' or 'Gocharting,' you are probably very close to succeeding in options trading.
All you have to do is connect the dots.
The problem is most traders experience the following:
They fail to analyze demand and supply.
They don't know how to interpret 'Volume' in the right way.
They fail to decode the big players' actions.
Open Interest (OI) will help most traders to shatter these issues and to walk on the successful path in trading.
What is Open Interest?
Open interest (OI) is the number of contracts of particular security (stock or index) that have been traded but not yet liquidated by an opposite trade or by delivery.
In simple words, OI is the outstanding or pending contract held by the trading community at any time.
If open interest increases, it suggests that new money is coming into the market and that there is continued interest in holding positions in the contract (either bullish or bearish).
If open interest declines, it may suggest that some participants are losing interest or that positions are being closed out.
Open interest can be used as a gauge to determine whether a market is becoming more or less bullish or bearish.
The above image shows an example of OI data for Adani Ent stocks. On 6/Oct/2022, after the market close, OI is 15.65 million.
We do share live intraday trades (based on open interest) on our Telegram Channel. To know more, you can join here - Traders Group Run by Indrazith
How to Read Open Interest Data?
Open Interest (OI) is associated with futures and options trading. In this section, we will see how OI impacts the futures, and in the subsequent sections, we will study how it affects stocks and options.
If a buyer and seller initiate a new position in XYZ stock futures, then the OI of XYZ stock futures will increase by 1.
Similarly, if both close their position, then the OI of XYZ stock futures will decrease by 1.
Suppose an existing buyer or seller passes their position to a new trader. In that case, OI remains unchanged (volume count increases in this case).
In this way, OI provides accurate information about the demand or supply for a particular security.
Open interest can also be used to confirm price trends. If prices are rising and open interest is also increasing, this is generally seen as a bullish sign.
If you look at the Nifty chart, along with the price, OI is also increased. It shows the strong intent of buyers.
In this case, if you are holding a long trade, you can continue to hold until you see a corresponding increase in OI.
If you look at the Banknifty chart, the price is falling, but OI is increased. It shows the strong intent of sellers.
In this case, if you are holding a short trade, you can continue to hold until you see a corresponding increase in OI.
If you look at image 4, the price is falling, but OI is also falling. It indicates profit booking (long unwinding) by the traders who were holding a long position.
It is definitely not bullish, but at the same time, it is not completely bearish either.
In this case, if you are holding a long trade, you can close some positions or plan to exit if you see some increase in the OI along with a price fall.
If you look at image 5, the price is rising, but OI is falling. It indicates short covering by the traders who were holding a short position.
It is definitely not bearish, but at the same time, it is not completely bullish either.
In this case, if you are holding a short trade, you can close some positions or plan to exit if you see some increase in the OI along with a price rise.
How Does Open Interest Affect Stock Price?
Open interest can also be used to identify support and resistance levels in stocks. Support and resistance levels are important because they can give traders an idea of where the market is likely to turn.
Suppose open interest is high at a certain price level. In that case, it can mean that the market is supported at that level and is unlikely to fall below it. Conversely, suppose open interest is low at a certain price level. In that case, it can mean that the market is resisted at that level and is unlikely to rise above it.
A few decades back, big investors and fund managers used to look for good stocks to invest their money.
But the problem with this approach is that they can take advantage only when the market is in an uptrend. Besides, they used to get liquidity issues to clear their inventory during tough times.
Hence, currently, most big investors and fund managers take the route of selling options to deploy their capital.
If you observe the Reliance daily chart, it is evident that it is in a downtrend and it is going in a downward slope channel.
Now there are 13 trading days are pending for this month's expiry. Besides, Nifty is also correcting. Keeping all these things in mind, what is the probability of price trading above 2680 (breaking the resistance line) in the next 13 trading days?
It is quite rare, right?
So these big players sell call options (CE) of these strike prices to make some returns. They face loss only when the price closes above 2680.
We can also check the stats in Opstra Define Edge.
The above payoff chart from Opstra Define Edge indicates that the probability of success in this trade is 94.61%, and ROI is 2.14%.
In this manner, the big players deploy their capital by selling the call options of weak stocks.
Usually, they get success with their trades between 90-95% of the trades (CE Selling).
But the interesting thing is what happens in the remaining cases (i.e., failures)?
Do you think they give up and book the loss like retail traders?
A big NO!
Because of their money power, they try to defend their positions (like selling futures, selling more call options, etc.).
If you look OI chart of Reliance, it is evident that the highest number of call options sellers are sitting at 2600 levels. All these people are big shots with huge capital. So, whenever the price reaches that level, they fight to push the price downside by taking short trades.
Hence, there is a high possibility of the 2600 level acting as strong resistance in this trading month.
If you look OI chart of Adani Ent, it is evident that the highest number of put options (PE) sellers are sitting at 3000 levels. All these people are big shots with huge capital. So, whenever the price corrects to this level, they fight to push the price upside by taking long trades.
Hence, there is a high possibility of the 3000 level acting as strong support in this trading month.
Where to Find Open Interest (OI) for Free on Charts?
We do share live intraday trades (based on open interest) on our Telegram Channel. To know more, you can join here - Traders Group Run by Indrazith
There are many ways to plot open interest (OI) on a live chart.
In.Tradingview.com - OI is available as an indicator. Search for 'Open Interest' in the indicators section.
Gocharting.com - Here also, OI is available as an indicator. Search for 'Open Interest' in the indicators section.
You can also get OI data in different tools of Gocharting for free by connecting with your broker. You can watch the below video to learn more about it.
FNOTrader.com - This platform presents OI info in many dimensions. Read this post to explore all the features.
OIPulse.com - OI information is also available on this platform. It provides much interesting information and application of OI in trading. But it comes with a small fee every month.
Sensibull.com - It is a favorite platform for all options traders. This tool also provides OI info in versatile formats. But again, it comes with a small fee every month.
Options Decoder- It is a simple and wonderful tool on OI from the Truedata team. It has many useful and interesting features related to OI. You can watch the below video to know all the interesting features of Options Decoder.
Open Interest in Options
As the big players deploy most of their capital in selling options, it is essential to know their actions in options. OI contains all their activities.
Hence when trading options, it is important to understand open interest. Open interest can be used to gauge market sentiment and predict future price movements.
Always don't assume these big players only sell call options. Because they may sell put options, they may buy call or put options to hedge their positions. Hence, it is better to interpret OI in both call and put options.
Call Options:
Increase in CE + Increase in OI -> CE Long Build up (bullish)
Decrease in CE + Increase in OI -> CE Short Build up (bearish)
Increase in CE + Decrease in OI -> CE Short Covering (slightly bullish)
Decrease in CE + Decrease in OI -> CE Long Unwinding (slightly bearish)
Put Options:
Increase in PE + Increase in OI -> PE Long Build up (bearish)
Decrease in PE + Increase in OI -> PE Short Build up (bullish)
Increase in PE + Decrease in OI -> PE Short Covering (slightly bearish)
Decrease in PE + Decrease in OI -> PE Long Unwinding (slightly bullish)
So, When we combine OI info from both CE and PE, many Variations are possible.
But below are the important ones:
CE Long Buildup + PE Short Buildup -> Super Bullish
CE Short Buildup + PE Long Build up -> Super Bearish
CE Short Buildup + PE Short Buildup -> Sideways
It might be confusing at the beginning. But with constant practice, it is possible to understand the action.
There are many software which decodes this and provides the interpretation.
Let's take an example:
The above image shows the SBIN 15-min chart, and the price is falling from the open on 7/Oct/2022.
Let's look at the OI interpretation.
This is the options interpretation in the ATM option.
Similarly, if we check the action in 1-2 legs of the options strike price, we will get complete clarity about the big players' game.
How to Trade Using Open Interest?
Traders should not depend only on OI to manage their trades. They should use other technical concepts, build their own trading system and use OI as a confirmation tool.
On 7/Oct/2022, Nifty displayed a False Breakout Structure at IB Low.
(IB Range is a market profile concept that stands for a 1-hour range after the market opens).
Now, if you see the OI Statistics:
This is the OI interpretation for the Nifty ATM strike.
The call option indicated a short cover, which is a slightly bullish signal, and the put option indicated a short build which is a complete bullish signal.
So it also confirms the reversal from OI. So traders can plan a long trade at the high of the reversal candle, keeping a stop-loss below the low of the reversal candle. They can hold the trade until they spot a reversal in price and OI.
This is the result:
When trading derivatives, open interest can be a valuable tool.
You should use it to help you gauge market activity and liquidity levels. You should also use it to help you identify market sentiment.
However, you should always use caution when trading based on open interest levels alone. You should always combine open interest levels with other technical indicators to better understand the market.
Options Trading Course
Options are a complex financial instrument and require careful consideration before entering into any options trade.
It is very important to understand OI interpretation with options before taking trades.
To learn more, you can register for this online options trading course
