The elements of charting must be interpreted
together as they are meaningless on their own. When changes in open interest and
volume are analysed in conjunction with the price charts, they may indicate
several trends, described in the paragraphs that follow.
When both volume and open interest are expanding
against a background of rising prices, a bullish trend on the market is indicated. A
rise in open positions is a consequence of the ongoing entry of new long
positions and new short positions into the market. However, with every
subsequent upward movement in prices, the shorts that previously entered the
market will incur worsening losses that will be increasingly difficult to
sustain. Eventually, traders with short positions will be forced to buy, which
will add more buying pressure to the market.
A persistent rise in both volume and open interest
with prices rising is a good indicator of a bull market. In this scenario more
new participants are willing to enter the market on the long side, looking for
higher levels. When the volume and open interest start to decline this could be
a signal of a trend reversal. As mentioned earlier, for the New York market, the
commitment of traders (COT) report, published by the CFTC, www.cftc.gov , yields a
great analysis of the opened interest, not only by trader category, but also by
weekly change.
If daily volume and open interest are falling and
prices are declining, a bearish trend
is confirmed. When there are more sellers than buyers in the market, long
positions suffer increasing losses until they are forced into a selling
position. Declining volumes together with declining prices in turn mean that it
will be some time before the lowest price of this bearish trend is reached.
An explosion of volume can also signal a turning
point in the market if a day's trading at very high price levels is recorded
against a very large volume and if subsequent price movements, either up or
down, are accompanied by lower levels of volume. This is a good sign that a
reversal is imminent. Similarly, a collapse in prices after a severe downtrend,
recorded against a high volume, can signal an end to the bearish
trend.