How to Use Open Interest for Intraday Trading?
Intraday trading, characterised by fast paced decision making and short holding periods, demands a comprehensive understanding of various market indicators. One such critical indicator is open interest (OI). Open interest is a valuable tool for intraday traders to gauge market sentiment, identify potential price movements, and make informed trading decisions. So, what is it? Let’s find out.
Open Interest Meaning
Open interest refers to the total number of outstanding contracts for a specific financial instrument, such as stocks, futures and options. It represents the cumulative total of all long and short positions not offset by an opposing trade or settled. OI constantly changes as new positions are opened, and existing positions are closed or liquidated.
For example, if Trader A buys 100 shares of stock XYZ, and Trader B sells 100 shares of the same stock, the open interest for Stock XYZ would be 100, as there is one open contract. If Trader C enters the market and buys an additional 50 shares, the open interest will rise to 150.
How Is Open Interest Different From Volume?
Volume is the number of contracts traded during a period. It resets each day and shows how active the market was, not whether positions were opened or closed. On the other hand, open interest is the number of outstanding contracts that remain open after netting long and short positions. OI rises when both sides open new positions and falls when both sides close; if one opens while the other closes, OI is unchanged.
Using them together indicates – rising volume with rising OI signals fresh participation; high volume with falling OI points to short-covering or long liquidation; low volume with steady OI suggests a quiet market. Volume updates trade-by-trade, while OI typically updates less frequently. On expiry days, OI declines.
Open Interest Calculation
When two traders establish fresh positions (one as a buyer and the other as a seller), open interest increases by one contract, reflecting the money flowing into the market.
Conversely, when two traders close existing positions (an old buyer and an old seller), open interest decreases by one contract, indicating money flowing out of the market.
When an old trader transfers their position to a new trader, open interest remains unaffected, keeping the money within the market unchanged.
Open Interest Chart
While the manual calculation of open interest can be cumbersome, the same can be gauged through charts. Open interest charts visually display the accumulated positions in a given financial instrument over time. These charts are commonly available on various trading platforms and can be an excellent tool for intraday traders. When analysing an OI chart, consider the following points:
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Trend Identification: Observe the trend of OI over the intraday period. An increasing trend may suggest a strong consensus among market participants, indicating a potential price trend. Conversely, a declining trend might signify uncertainty or a possible reversal.
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Price-Volume and OI Relationship: As highlighted previously, combine OI data with price and volume information to gain deeper insights. If prices rise with a surge in Open Interest, it could indicate a bullish trend, and vice versa.
Open Interest Analysis and Significance
Now that you understand what open interest is and how to read open interest charts, explore its importance in intraday trading analysis:
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Market Sentiment: High open interest alongside rising price signals long build-up and strong bullish conviction. Rising OI with falling price points to short build-up, indicating a bearish tone. Falling OI with rising price suggests short covering, while falling OI with falling price points to long liquidation. Read sentiment across strikes, not just totals. Increasing put OI at higher strikes implies strengthening support. Climbing call OI above price shows overhead supply. Confirm with volume and intraday price structure to avoid false reads.
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Trend Confirmation: Use OI as a secondary lens to validate price trends. In uptrends, price up with OI up and healthy volume shows sponsorship by new money and better durability. Price up with flat or falling OI flags squeezes or profit-taking. In downtrends, price down with OI up confirms shorts building and sustained weakness. Track change-in-OI heatmaps across strikes. Migrating put OI to higher strikes indicates rising support. Pair OI cues with ADX, moving averages, and VWAP for alignment.
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Reversal Indicators: Reversals often flash participation fatigue before price turns. Watch for price making marginal new highs while OI stalls or drops, indicating longs exiting rather than expanding exposure. After a prolonged run, a sharp OI contraction with wider ranges and weak follow-through warns of distribution. In options, sudden unwinding at key strikes or a flip where dominant OI dissolves can precede a turn.
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Monitoring liquidity: OI is a practical proxy for tradable liquidity. High OI clusters attract market makers, tighten spreads, and deepen order books, reducing slippage on entries and exits. Low OI zones create wide spreads, partial fills, and jumpy candles that distort signals. Prioritise strikes in the top decile of OI and volume, typically near at-the-money and weekly expiries. Check bid-ask depth, not just last-traded price. Watch for abrupt OI drops from assignment or cancellations. This liquidity awareness directly improves execution quality.
Using Open Interest Indicator
To make the most of open interest in intraday trading, consider these strategies:
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Confirming Breakouts: Breakouts backed by rising open interest (OI) indicate strong participation from traders building fresh positions. For instance, if a stock crosses a major resistance level and OI surges, it shows conviction that the move is not a false breakout but supported by institutional activity. Without OI support, the breakout could fail.
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Divergence Analysis: When price and OI diverge, it signals weakening momentum. If price forms higher highs but OI drops, existing longs may be exiting, reducing trend strength. Conversely, price falling with declining OI can indicate short covering and potential upside recovery.
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Options Trading: Monitoring OI in options helps spot smart money flow. Rising OI in calls suggests bullish positioning, while higher put OI indicates bearish bets. Strike-wise OI highlights intraday support and resistance levels.
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Intraday Liquidity Mapping: High OI at specific strikes creates liquidity pockets where volume concentrates. These levels act as magnets for price, causing intraday consolidations or reversals. Tracking liquidity zones through OI helps refine entries, stop-loss placement, and exit timing.
What Tools and Resources Are Available for Open Interest Analysis?
For open interest analysis, you can use a mix of charting platforms, broker terminals, and data tools to interpret activity effectively. Most trading platforms provide real-time OI data integrated with price and volume charts.
Advanced charting software offers OI overlays, OI heatmaps, and options chain visualisation. Stock exchanges publish updated option chain data with strike-wise OI, which is crucial for identifying support and resistance.
Many financial data providers also provide OI analytics like PCR (Put-Call Ratio) and intraday OI change trackers. Excel and Python APIs help advanced traders backtest strategies using historical OI data.
Together, these resources allow detailed monitoring of liquidity, sentiment, and trend confirmation.
In Conclusion
Incorporating open interest analysis into your intraday trading strategy can significantly enhance your decision-making process. As you gain experience and familiarity with open interest charts, you'll begin to discern valuable patterns and trends. Remember that open interest is just one piece of the puzzle, and you must use it in collaboration with other technical and fundamental indicators for a well-rounded approach to intraday trading.
So, keep an eye on open interest, study its implications, and use it as a valuable tool to stay ahead in the dynamic world of intraday trading.
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FAQs
What Affects Open Interest?
When both parties involved in a trade establish new positions (one as a new buyer and the other as a new seller), open interest will rise by one contract. Conversely, if both traders are liquidating existing positions (an old buyer and an old seller), open interest will decrease by one contract.
How Does Open Interest Affect Markets?
When open interest rises, it typically indicates an influx of new capital entering the market for that particular option. This influx of funds suggests that the current trend is likely to persist. On the other hand, when open interest declines, it often signals that the market is experiencing liquidation, with more investors opting to leave the market.
What Happens if Open Interest is Zero?
When the open interest of a particular strike price hits zero, it implies that traders exhibit minimal interest in either buying or selling contracts at that specific strike price.
How Often is Open Interest Updated?
Open interest is subject to update only after the completion of all trades processed for a specific trade date during overnight processing. Subsequently, this updated data becomes accessible the following morning.
This article is for informational purposes only and does not constitute financial advice. It is not produced by the desk of the Kotak Securities Research Team, nor is it a report published by the Kotak Securities Research Team. The information presented is compiled from several secondary sources available on the internet and may change over time. Investors should conduct their own research and consult with financial professionals before making any investment decisions. Read the full disclaimer here.
Investments in securities market are subject to market risks, read all the related documents carefully before investing. Brokerage will not exceed SEBI prescribed limit. The securities are quoted as an example and not as a recommendation. SEBI Registration No-INZ000200137 Member Id NSE-08081; BSE-673; MSE-1024, MCX-56285, NCDEX-1262.
