Open interest is a sum of all the outstanding options contracts at the end of the closing day. Any option that has not been closed or delivered counts toward open interest. Open interest can be calculated for an entire market, an entire index or an entire security. Analysts review open interest in these models to determine if new trading information has been released, if new money is flowing into the market or if the market is quickly liquidating. Some analysts believe open interest is more of a running tally than a financial indicator.

Open Interest and New Information

If the amount of open interest on a particular security jumps in a short period, new interest has been generated on that security. The most common reason for new interest is new information. According to rational market theories, when new information is released, the market responds as a group. This group considers all of the public information available on a security to make a common choice. While some economists argue that rational market theories are not actual models of how investors operate, most agree that new information will change the market response to a particular security, increasing open interest if the information is positive.

Open Interest and New Money

During a recession or period of slow growth, open interest is relatively low. Investors stick to less risky choices than options contracts. Many will liquidate their holdings altogether. When the market shows an increase of open interest on the whole, it can be an indicator that new money is flowing into the market. This can occur when the economy recovers from a recession or simply enters a period of optimism. The difference between a new information indicator and a new money indicator is how widespread the open interest shows itself to be. If it is limited to one security, new information was likely released; if it is spread market-wide, new money is likely present.

Open Interest and Liquidation

When open interest on the market as a whole declines, economists begin looking for signs of a weak economy, investor fear or risk-averse investing. This type of situation indicates the investors are pulling cash out of the market and keeping it in alternative, safer investments. They may be purchasing real estate, bonds or CDs. They are not purchasing options, however. When open interest declines, analysts begin to warn of a large-scale market decline.

Shortfalls of Open Interest

While the above analyses are openly discussed and accepted by many, there are other analysts who do not feel open interest can strongly indicate the health of the market or attitude of investors. These analysts more strongly believe that open interest is a randomly generated running tally. Changes in open interest could reflect any number of indicators like those discussed above but also including factors such as the time of year, the political climate and other personal factors. As an individual investor, you may choose any interpretation of open interest you find most rational. It is best to remember, however, that day-by-day analyses may not be as useful as analyses of overall trends and large-scale changes. 

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