Why Open Interest Matters in Trading? Included Practical Examples

Be it stock trading or F&O, Open Interest is one important parameter that should never ignore. We personally know several institutional traders who trade solely based on open interest without looking at any other indicators or chart patterns. 

Let’s dive in and find out why it is so important.

A Quick Recap of Open Interest

As per Investopedia, “Open interest is the total number of outstanding derivative contracts, such as options or futures that have not been settled for an asset” 

I’ll skip explaining the detailed calculation steps of open interest. You can find more details about it in this article. 

But for all practical purposes, every strike an option chain has an individual open interest value. Open interest for a particular strike will increase if trades are happening for that strike. 

For example, Open interest for Nifty 14000 CE will increase by 1 if a trader buys 1 lot of this contract, and another trader sells 1 lot. And the open interest will decrease by 1 if these traders square off their respective positions.

Reasons why Open Interest matters

Let me tell you 3 important points that prove that there is no better and confirming  indicator than open interest:

Also Read: Does Technical Analysis really Work?

How to Trade based on Open Interest?

Look at the options chain of the stock or index derivative and do the following:

1. Find the Call strike with the highest open interest (Resistance)
   • Sell that strike OR
   • Sell a futures contract when the underlying price approaches that strike
2.  Find the Put strike with the highest open interest (Support)
   • Sell that strike OR
   • Buy a futures contract when the underlying price approaches that strike
3. Sell both Call and Put strike with the highest open interest (short strangle) – This has the highest probability of success.

If you design your system confirming the above 3 points, you can increase your win ratio drastically. PERIOD!

Where do I find OI Data?

You can find open interest data for futures and options at several places:

1. On the exchange website. For example – The option chain of NSE Nifty can be found at this link.
2. On your broker dashboard, you may find OI data for every symbol in your watchlist
3. Through external data feed like Truedata or GDFL, you may import historical open interest data into tools like Amibroker
4. We’ve published excel based tool in the past that helps you fetch OI data from the exchange website to a spreadsheet. Find it here.

Final Thoughts

I hope you understand the importance of open interest now. It is unarguably one of the best ways to predict price movements.

Combine open interest with few technical analysis based indicators, and you’ll surely be able to build a highly accurate trading system.

Please feel free to comment if you have any questions.