Interpreting Volume for the Futures Market

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During a recent class a good question came up about identifying the front month contract in the Futures markets. All Futures contracts have an expiration date. During the life of all Futures contracts, usually the last couple of months before expiration they will be the most actively traded contract of all months listed for that Futures market.

During this most actively traded period that contract month is referred to as the front month. As futures contracts come near expiration speculators are forced out of that contract or face taking delivery of that Futures market.

Taking delivery is having the physical product delivered to you. These deliveries are not just hard assets like Live Cattle or Corn, other markets like Interest Rate and Currency products are deliverable as well. To avoid these deliveries speculators usually liquidate their current positions in the soon to expire contract and then enter the same market in the next front month contract.

This is referred to as a position roll over. When the majority of the trading activity was done in open interest and trading volume for futures contracts trading pits in Chicago and New York the trading pits had steps that went all the way around the pits and stepped down into the center of the pits.

The top step of the open interest and trading volume for futures contracts was where traders trading in the front month contract stood. The next step down into the pit was the next contract month in the cycle. The actively traded contract was on the top step because that is where the most orders had to be traded and it was easier to get the paper orders to the brokers to fill the orders. As contracts would come near expiration the traders would watch for volume and open interest to change.

Once they noticed this change then the new front month was traded open interest and trading volume for futures contracts the top step. Unfortunately contract roll overs do not occur at the same time for every roll over.

Since there is no hard set rule for a contract to roll over on the same date each time we as speculators need to follow volume and open interest to tell us when to trade the next contract in the cycle.

Futures offer good leverage for little capital. This tends to attract a lot of day traders to the Futures markets.

A day trader needs liquidity volume to get their orders filled. If a trader is trading in a contract with very low liquidity they risk getting bad fills called slippage.

For a day trader they need to monitor the volume that is being traded in a front month contract. The day there is more volume in the next contract in the cycle they must then begin to trade that contract to keep trading the most actively traded contract. A swing trader needs a little more information. If a swing trader uses volume only to determine when to roll over his contract they might have to get in their position one day and the very next day exit it and go into the next contract month in the cycle.

This is because they are holding positions overnight. For swing traders it is good to understand open interest as well as volume to help identify which contract month they should be trading in. Open interest is simply the number of outstanding contracts that have not been offset or delivered yet. So anybody holding open positions overnight is increasing the open interest. Large traders often roll over their contracts much sooner than other traders.

They have such size number of contracts to roll over open interest and trading volume for futures contracts could cause a distortion in price action if they waited until everybody else rolled over.

This Fund rolls over contract positions on the th business day of the month preceding the expiring contract. Do you think Goldman Sachs is day trading or holding positions overnight in this Fund?

Most definitely holding positions overnight would be the correct answer. Just knowing how big Goldman Sachs is and there are several other Commodity Index Fund firms, what do you think this is doing to the open interest of a contract when they exit their positions? The open interest has to be reduced significantly for that contract month. Where did the open interest go? To the next contract month in the cycle because of rules on how they must invest in the markets.

I would like to thank Moore Research www. Figure 1 shows the Crude Oil market and the first 7 contract months in the cycle. Each contract month has its own volume and open interest. Notice the volume in the November contract iscontracts while the December contract isFor a day trader you would like to open interest and trading volume for futures contracts in the most actively traded contract.

At this time you would want to be day trading the November contract until there is more daily volume in the December contract than the November contract. As a day trader you may wish to keep an eye on the open interest as well. While you will want to trade the most actively traded month you may want to be aware that since the open interest is higher in December than November that a roll over is imminent in the next few days.

For a swing trader person holding positions overnight you can view this page a little differently. By looking at the open interest we can see some of the larger traders have already left the November contract and are now positioned in the December contract even before the volume has rolled over.

You place your order using the November contract. Now you are filled on your order and within the next day or two you will have to exit that November contract and roll over to the December contract to avoid delivery of 1, barrels of Crude Oil.

Now you will have another transaction cost commission and possibly miss getting filled on your December contract if price does not come open stock trading account in singapore to your level with your new order. If you had been looking at the open interest you would have known that the larger traders had left November already and you would have placed your order in the December contract.

This would allow you to keep your Crude Oil contract until the next expiration period instead of dealing with the one in just a few days. Figure 2 shows a chart with the open interest of the November contract upper chart of volume with solid black line open interest and trading volume for futures contracts participants leaving this contract black line turning down.

Figure 3 shows where the participants who left November went to and that would be December Crude Oil. Notice how the solid black line in the upper chart of volume is now turning up showing open interest increasing in the December contract. Whether you are a day trader or a swing trader, understanding open interest and volume can help you select the contract you wish to trade.

By reducing your transaction cost and possibility of missing your trade you can position yourself by skipping over rollovers. Keep in mind that you can trade any contract month in the cycle, not just the first two contracts listed. As long as the contract month has sufficient volume you can trade it.

Disclaimer This newsletter is open interest and trading volume for futures contracts for educational purposes only. By no means do any of its contents recommend, advocate or urge the buying, selling or holding of any financial instrument whatsoever. Trading and Investing involves high levels of risk.

The author expresses personal opinions and will not assume any responsibility whatsoever for the actions of the reader. The author may or may not have positions in Financial Instruments discussed in this newsletter. Future results can be dramatically different from the opinions expressed herein.

Past performance does not guarantee future results. Reprints allowed for private reading only, for all else, please obtain permission.

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Futures traders have the benefit of having access to volume and Open Interest data. In order to form a sophisticated trade analysis and make reasonable assumptions about what is happening on your charts, being able to combine the information provided by volume, Open Interest and price can give traders an extra edge. Volume shows the amount of trading activity in a given market on any given day.

Rising volume means that there was more trading activity and more contracts were traded than on the previous day. During trends, high and rising volume means that trading activity supports the ongoing trend and a trend continuation is likely because more investors or more contracts traded support current price movements. Technical analysis also uses volume information to identify potential reversals — if during an uptrend volume declines, and momentum falls, it signals that fewer people are buying into the trend and conviction is declining.

Remember that for each buyer you need a seller. Especially immediately before a new trend or during strong trends, an increase in Open Interest indicates that a breakout is likely or that the trend will strengthen since more investors are looking to enter a trade.

When it comes to price, there are a few things that need to be taken into consideration when analyzing charts:. Of course, this is a very simplified way of looking at price information, but this article has the purpose of breaking down the underlying components that drive the markets.

During consolidations, volume and Open Interest is typically low, declining and below average. When, after a consolation and a period of below average volume and Open Interest, the price suddenly starts to move into one direction while volume and Open Interest picks up, it often foreshadows the start of a new trend. When more investors enter positions, and more interest exists, it shows consensus with regards to price movements.

The chart below describes how price, volume and Open Interest analysis work together. Before the recent bearish phase, price moved higher for a few days, but volume and Open Interest were very low — both metrics saw a significant drop. Once price started to move lower, volume picked up fast and Open Interest followed shortly after. During the bearish trend, volume and Open Interest kept increasing. Then, as the bearish trend slowed down, volume declined, and Open Interest was flat.

Price volatility increases and just keeps moving sideways. Open Interest and volume analysis can often be a leading indicator when it comes to identifying market turns and reversals. Particularly at the key support and resistance levels, a change in Open Interest and volume can be probable predictors and warn traders in advance that market sentiment is undergoing a change.

The chart of WTI Crude Oil below shows how volume, Open Interest, and price analysis can help improve the understanding of market activity: A new trend is supported by rising volume and increasing Open Interest; fading momentum after a trend is foreshadowed by a drop in Open Interest and a turn in volume. There is a risk of loss in futures trading.

Past performance is not indicative of future results. Optimus Futures is a leading online futures broker that caters to traders seeking fast execution and stable data feeds combined with aggressive margins and deep discount commissions.

About Optimus Futures Optimus Futures is a leading online futures broker that caters to traders seeking fast execution and stable data feeds combined with aggressive margins and deep discount commissions.