[I]I continue now a new series here, I write here down my own thoughts about my second COT book as I read it. I write down anyway always for myself what I think is important to look it back later, so I decided why not to post it here too? Important: I write down the own words of the author, in the right order as it comes in the book. However I will not structure the different thoughts and do not write down which pages they were. I just want to mention the sentences which I find important for myself. This is not the same value for you as reading the book (hopefully you will all read it when you have the time for it), however it is better than nothing. I also make my own summary in the end of each post.[/I]
[B]The Breakthrough[/B] (getting inside volume and open interest)
While most people understand that stocks move due to volume, many stocks players are not familiar with one of the major differences between stocks and commodities. This difference is open interest (OI). Unlike stocks, this is a zero-sum game. For every dollar won, a dollar is lost.
In the stock market a company issues a certain number of shares (float), and that’t it - there are no more shares to trade. In commodities there is no finite number of contracts or float. It is open ended. As long as a new buyer comes in and there is a new seller, OI will increase. At times there may be more volume (i.e. contracts traded) than total OI. Open interest applies primarily to the futures market.
[I]A key point on open interest [/I]
The more contracts open, the larger the interest in the market has become. Thus an increase in OI is saying that someone is very excited about what the market is doing - going up or down. I think of OI as participation or interest in a market, and know that when OI is increasin someone thinks the current trend is valid. They are climbing on board that price trend.
A large OI tells us, for the most part, that the crowd or masses are in the marketplace, and they are usually found to be wrong. When OI is very low, the public has no interest in the market - it’s a pure commercial market. Usually this is where major up moves begin, when the public has no appetite to be buyers. Never take another man’s bet. He wouldn’t offer it to you if he wasn’t thinking that he knew something you didn’t.
[I]Open interest as a timing or entry tool[/I]
Low OI means that the public and funds have lost interest in this particular market. Since I live and die by the notion the public is wrong, the fact that the public is not intrested in a market means I should be.
While at times OI does not call the exact low, we can still pretty much rest assured that almost all lows will come hand in glove with this important market indication.
Let’s look at a few more markets to drive home this point, and discuss what markets this does not work in - notably stock index futures. The financial markets have a much different OI pattern as there is no physical crop of stocks or British pounds to bring to the marketplace, so the interest in the market is synthetic and involves a great deal of arbitrage beteen markets. This accounts for spikes in OI close to delivery, with a large buildup of OI, then a sharp drop-off as the new contract begins trading.
[I]Sells in silver[/I]
High OI levels are associated with market peaks and low levels with market bottoms.
[I]Buying and selling[/I]
The lesson is that OI can be very helpful to us. Think of it as the masses, the crowd. Markets by their very nature cannot have everyone buying the lows and selling the highs. However, the opposite, buying the highs and selling the lows, is ture. So look for times when there is no OI if you want to find a market that is going to get really interesting.
[B]Opening Up on Open Interest[/B]
The question is not if open interest (OI) is increasing or decreasing, but who is causing the change - weak hands like the public or strong hands like the commercials? That’s the question that need to be answered. So what if prices are rallying in a nice uptrend. The tellling issue is whether a concomitant increase in OI is being caused by the public adding long positions while the commercials are decreasing their longs or the commercials adding longs while the public is doing the selling. It’s not so much OI that controls the market as it is who (which side or team) is controlling OI.
Looking inside OI tells us so much more than looking at just OI and price.
[I]Summary[/I]: These were very interesting chapters but I have to be very carefull. It was the first time when the examples of the COT report showed different conclusions on OI in financial instruments, commodities or stock. The interpretation of OI in these different markets have to be based on the actual market type and not as a common analysis type. The 2 chapters gave great examples with charts which I cannot show here. It worth it to read it in the book. My opinion is though that it is easier to make clear conclusions on net position and COT Index than on Volume and Open Interest.
You are funny. The USD Index chart is good, peterma emphasizes it, I still forget it often so good that you reminded me.
