Question:
I understand that you monitor volume and
open interest to give you clues to what might happen next, but how does
that work?
Answer:
I’ve actually written a special report
that deals specifically with the subject of volume and open interest and
how they can help forecast price movement. It is available to subscribers
at the website (http://www.tradershelpingtraders.net).
Just follow the “login” link at the top of the page from where you will be
able to download the report.
Briefly however, by following Volume and
Open Interest, relative to current prices, traders can get a better idea as
to the strength of a current trend or the strength of a market breakout
from a formation. Following Volume and Open Interest is not rocket science
and as indicators they are fairly straightforward and usually reliable.
Both Volume and Open Interest are usually used as secondary indicators, and
are best used to confirm trading decisions as opposed to initiating them.
Volume represents the total amount of
trading, or how many contracts, have changed hands in a given day. A quick
look at the volume bars will show which days trading had heavy trading and
on which days trading was light. The volume figure can be used to determine
the strength of the current trend. If volume is high, or increasing, then
the pressure behind the trend is high, and the current trend is likely to
continue (up or down). If volume is falling, then the pressure behind the
trend is weakening and a reversal maybe around the corner.
Open Interest measures the number of
outstanding contracts at the end of each day. Actually, Open Interest only
records half of the outstanding contracts, since for each buyer there must
also be a seller, but this does not affect how we use open interest. Open
Interest can also be interpreted as the flow of money entering and exiting
a market. If Open Interest is increasing then this is a sign that there is
new buying taking place, and traders are expecting the current trend to
continue. Conversely if Open Interest is declining it shows that traders
are taking their money out of the market, or liquidating, and the current
trend will likely end soon. Similarly, if Open Interest levels off after
prices advance, it is a sign that no new buying is taking place and the
current uptrend is losing steam.
When interpreting volume and open interest
keep in mind that:
* When prices, volume and open interest
are rising, prices will continue to rise; * When prices are rising, but
volume and open interest are falling, this is a sign that the current
uptrend is weakening; * When prices are falling, but volume and open
interest are rising, then the market is weak and the current downtrend will
continue; * And finally, when prices, volume and open interest are all
declining, then the current downtrend is losing steam and we could be
looking at a bottom as the market momentum slows.
-Erich
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Using Volume and Open Interest with Support and Resistance
