Derivatives

Short Take: Trading volume, open interest

Akhil Nallamuthu | Updated on March 27, 2021

When it comes to trading, liquidity is a critical prerequisite. Derivative contracts of stocks/commodities that are more liquid are preferred for trading over those that are less liquid, so that entries and exits can be executed with ease.

Trading volume and Open Interest (OI) are the metrics that can tell us about the liquidity of the derivative contracts. Not only liquidity, but these are also good gauges of the market sentiment. They can help us understand the direction and the strength of a trend. But often there is a confusion over the difference between volume and OI and how they are measured. Here, we look at difference between these two metrics.

Volume measures the number of contracts being exchanged between buyers and sellers in a particular trading session i.e., every transaction is added. On the other hand, OI is the number of contracts that are outstanding at that time and they are added and subtracted based on whether the contract is created new or liquidation of contracts that are already open.

For example, suppose Trader A buys 10 option contracts of a stock from Trader B. Post this transaction, both volume and OI will be 10. But if Trader A sells back 5 contracts to Trader B, the volume will go up to 15 whereas the OI will drop to 5. So, the key difference is that OI will go up only if new contracts are created whereas trading volume will go up irrespective of opening or a closing transaction.

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Published on March 27, 2021

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