The total of a
clearing house's outstanding long or short positions is called the open
interest. If a broker who is long in a futures contract sells their
position to another trader who wants to be long on futures, the open interest
does not change. However, if they sell their position to a trader who is short
and is therefore closing out their position, the open interest is reduced. The
total size of the open interest indicates the degree of current liquidity on a
given market.
When considering the open interest, it is important
to distinguish between the types of operators entering the exchange. The term
'strong hands' describes those who are
able to make margin payments over an extended period of time whereas 'weak hands' are operators who cannot easily
meet the substantial variation margins demanded whenever prices move
significantly.
In general, strong hands are comparatively resilient
to price changes. One type of strong hand is an operator who uses the exchange
for hedging purposes. They may want to liquidate a position, not as a result of
price movements but because of an opportunity to carry out an operation in
physicals. Once the hedging operation has begun they will not be affected by
price changes. Another type of strong hand is the speculator who holds large
amounts of capital. Such operators can withstand a setback on the market without
being forced to sell their positions because they have the financial resources
to cover the margins. Small non-professional speculators who generally operate
through a broker are considered weak hands because they are more vulnerable to
changes in price.
Looking at prices in isolation can give some
indication of whether buyers or sellers are dominating the market, but it will
not distinguish new purchases from hedging operations. If new purchases are the
predominant activity, it is possible to forecast the continuance of the market's
upward trend as these purchases signify that new operators are entering the
market in the hope that the market will rise. However, if these purchases are
largely for hedging purposes to cover short positions, the market is considered
weak because once these short positions are covered the buying pressure will
subside.
Volume of
operations
The volume of operations, or turnover, is equivalent
to the number of trades in all futures contracts for a particular commodity on a
given day. Technical analysts regard volume and open interest as indicators of
the number of people or weight of interest in the market and thus of the
likelihood of a price rise. A gradual increase in volume during a price upturn
could suggest a continuation of the trend.
The rise in volume could also result from an
anticipation of higher prices in the future, but, in fact, it may indicate that
long or short positions are leaving the market because of a fall in prices. In
general, the volume of trade is a good guide to the breadth of the outside
support given to a price movement on the market.