Forex brokers South Africa will make it possible to trade in open interest matters and volumes which are important to option traders. The movement of prices in the options market is normally a reflection of the decisions which are made of buying or selling options which are made by various traders. But the price is not the only number which as a successful options trader you need to keep an eye on.
The daily trading volumes and the open interest are extra key numbers that you need to watch as you trade options. To understand the two numbers might help in making investment decisions which are well informed.
Daily trading volume
The trading volume is known to be the number of contracts or shares which are traded in a certain period. When you look at the option which is underlying the stock, the volume might give you an insight in the currency price strength in movement. The trading volume in the options, just like what happens in stock, is normally an indicator of the current interest.
But the volumes for trading are relative as it requires to be compared with the average daily volume of the stock which is underlying. Great numbers of changes happening in price that is accompanied by the volume which is higher than normal are a solid indicator of a sentiment in the market in the direction of change. But there happens to be a bigger increase when it comes to price that is accompanied by volumes of trading that are low which doesn’t signify the strength. The fact is that, the combination might as well be an indicator of a price reversal happening soon.
Open interest
Open interest is all about the number of contracts which are active. It is one of the data fields on majority of the option quote which are displayed together with ask price, bid price, implied volatility and volume. Yet most options traders tend to ignore active contracts which can then lead to consequences which are unforeseen.
Open interests is an indication of the total number of contract options which are currently out there. The contracts are the ones which have been traded but they haven’t yet been liquidated by an offsetting trade or assignment or exercise. Unlike with other options which are in the trading volume, the open interest doesn’t get updated during the day trading.
When you sell or buy an option, the transaction is normally entered as either closing or opening transaction. If you end up buying 10 calls from an DCE company, you will be buying the calls to open. Each call is a representation of 100 shares so that means that, in total, it is 1000 shares. That purchase will be able to add another 10 to the figure of open interest. In case you want to get out of the position, you would be able to sell the same options so that you close. Open interest will end up falling by 10.
To sell an option can as well add something to the open interest. If you owned about 1000 shares of the DCE and you were out to do a call that is covered by having to sell 10 calls, you will enter a sale to open. Because it is a transaction which is open, it is going to add 10 to the interest which is open. If you later want to go ahead and repurchase the options, you will enter a transaction for buying to close. The open interest will thereby decrease by 10.
Not all transactions end up being counted in the open interest. An example being that in case you buy 10 of the DCE calls to open and end up to get matched with someone who sell 10 of the DCE calls in order to close, the total open interest in number will not end up changing.
Why open interest tends to matter
When you look at the total open interest of an option, there happens to be no way to know whether the options were sold or bought. That is the reason why most of the option traders tend to ignore open interest generally. But you don’t have to assume that there is no information which is important.
One way of using open interest is by looking it at a relative to the contracts volumes which are traded. When the volume happens to exceeds the exist open interest on a certain day, it suggests that to trade in the option was very high on that particular day.
The open interest is also out to give important information about the liquidity of a particular option. If there happens to be no open interest in a particular option, there happens to be no secondary market for that particular option. When the options have a lot of open interest, it denotes there are bigger number of sellers and buyers in the market. An active secondary market tends to increase the odds of having to get option orders that are filled at prices which are good.
All the other things remaining equal, the bigger the interest of opening, then it becomes easier to be able to trade in that particular option which has a spread which is reasonable that is between the ask and bid. If you go looking for options at ABC Inc. and find that the open interest is at 13000, it is a suggestion that the ABC market options is quite active and there might be several investors who are in the marketplace that want to trade.
The bid price of the option could be $1 and the offer price could be $1.05. Therefore, it is likely that you could go buying one call option contract at the price of mid-price. If the open interest is at 1, it is an indication that there is very little of the open interest for those who are on call options and there is the absence of secondary market as there are very little interested sellers and buyers.
