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Volume and open interest

Let’s continue where we left off with regards to non-commercial speculation in the futures markets.

Some terms you’ll hear are “volume” and “open interest.”

Volume is the total number of trades made on a futures or options contract, usually on a daily basis.

Open interest is the number of futures or options contracts for a commodity in a specific contract period that do not have an offsetting position or been delivered against, or have expired yet. Simply put, it’s the difference between the total number of offers to buy and the total number of offers to sell.

If open interest is high it indicates that the majority of contracts being offered are on one side of the market (either buying or selling). This can help you determine which way markets are expected to go.

You will find volume and open interest numbers on charts and graphs for any futures contracts traded. This helps you and everyone else determine how active a futures contract is trading.

Now, let’s look at four scenarios:

1. High volume, low open interest. If volume is high and open interest is low, buyers and sellers are transacting business by completing a buy and sell contract. This would suggest that a fair market value has been established; both sides are willing to do business.

2. Low volume, low open interest. If volume is low and open interest is low, there are not a lot of buyers or sellers in the market at this time. Some business is being done, but it’s very limited. Buyers may have enough supplies for now and or sellers may be waiting for a better price.

3. Low volume, high open interest. If volume is low and open interest is high, that would suggest that there are few contracts are trading, and that there is more willingness on one side of the market than the other.

Price may be low so buyers are trying to buy, but no sellers want to sell. Or it may be the opposite: prices are high and sellers want to sell, but no buyers are willing to buy. In the second case, you’ll see a lot of sell orders but no buy orders, so open interest is high.

4. High volume, high open interest. If volume is high and open interest is high there are a large number of contracts trading. There are also a lot of offers to either buy or sell that are not getting filled, thus the high open interest. This would suggest that there is a lot of speculators trying to buy or sell into a contract because they believe there is opportunity to make money. The high volume is like adding fuel to a fire, it inspires speculators to be aggressive, believing they will make even more money.

This helps to push the futures higher or lower than usual because of the sheer volume. Like a snowball rolling down the hill, it builds on itself and it is hard to stop until it gets to the bottom or hits a wall.

When to sell?

It’s important to understand the fundamentals and the technical signs, so you can ask questions like: Where are the resistance and support levels on the chart? Have we broken through those levels? Will we? If we have, what is the next level of support or resistance? Have the fundamentals (supply and demand) changed to any great degree that could be driving this market move? All this will give you some very good insight.

The great unknown is at what price will one of the non-commercial speculative traders decide to liquidate their contracts for profits? They will be following the charts and technical signals but they know everyone else is as well. They will want to sell before everyone else — the first seller usually makes the most profit. When one starts liquidating it usually triggers the rest to do the same (snowball hitting the wall).

Taking all of this into consideration and keeping emotion out of the decision you need to decide what price you will start selling at, and sell a percentage of your volume at that price. Then as the market goes higher sell another percentage of your crop. Continue this strategy until you’ve priced all the grain you intend to price.

If the futures start to fall before you’ve sold all your grain in this scale up method, you’re best off to pull the trigger and sell the rest at the first sign of the futures falling.

It has been proven over and over that selling into a rising market will average you a better price than waiting for the top. The top is most often missed, and you end up selling into a downslide, ending up with a lower average price overall. †

Something you need to be aware of is the fact that the futures may be running higher but the price at the elevator may not be changing or may be getting worse! Why? And how do you avoid that scenario?

The “why” is because the basis is widening out as the futures go higher. The grain companies are taking more risk premium through the basis to protect themselves.

You may want to sell them your grain at the higher futures price but if they can’t sell it at those high prices they’re at risk, so they widen the basis. This gives them a cushion so they can sell the grain at lower futures values later if necessary, without losing money on the sale.

The best way to not get caught in this situation is to have locked in a basis contract earlier when values were narrower. If you didn’t do that then you may want to consider locking in the futures only for now at these high levels and leave the basis un-priced. The theory is that the basis levels will narrow again once this run on the futures ends. Then you can lock in a better value. †

About the author


Brian Wittal

Brian Wittal has 30 years of grain industry experience and currently offers market planning and marketing advice to farmers through his company Pro Com Marketing Ltd.



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