What Open Interest tells us

Sun Dec7 (NY) - by Anatoly Veltman, Chief Global Analyst - To those striving to black-box Open Interest (O.I.) signals: I happen to be of the opinion that experience in assessing every individual market's nuances and being current vis-a-vis market environment - are both irreplaceable, when attempting to crunch O.I. releases and derive bias/sentiment/signals. Thus, don't be surprised to find below that each market sector is looked upon in different time-frame, at different angle and with different objective in mind. 1. Treasuries: for 10y, 5y and 2y futures contracts, past year spelled O.I. annihilation. 10y's (current price 126) neared 1 million, down from 3 million in Aug07' (at 106 price)! 5y's (price 121) neared 1 million, down from 2.2 million Feb08' (near 113)! 2y's (109) below .5 million, down from 1.4 million Feb08' (107)! 30y's (134) not as miserable at .75 million, down from 1.1 million Feb08' (120)! Eurodollar Rate futures' 8 million (front around 98 price), down from 12 million Jan08' (front around 97 price)! Disproportionate rate of preservation in favor of the more "ancient" 30y and Euro-rate futures - may be a hint that more of the "old guard" players remained in the game, while newbie bank/fund high-fliers (and possibly quants) have not as adeptly survived recent market attrition... As to price forecast: the fifth (thus final) wave of upward impulse is clearly in late progress. Declining O.I. during most recent price jump = strong signal of unsustainable uptrend. I'd say: the history of US interest rate futures hardly ever included an O.I. sell signal of such strength. 2. Energy: the bubbleishious part of Crude's price history (all of the trading above $90 handle: straight-up followed by straight-down) appropriately overlayed with third (most powerful) wave of DOWN-impulse in O.I.! History will also remember the episode of two power-houses of Energy trade (Goldman Sacks and Morgan Stanley) giving up their leadership role in that market-place (a-la Enron earlier this decade in NG). Currently: O.I. is in the midst of wave4 upward correction (yes, surprisingly O.I. has been picking up during the latest price break below $70 and toward $40!). I anticipate final wave5 of O.I. decline - as both stale Long-liquidation and aggressive Short-covering kick in. $40/barrel has been one of the most important mile-stones throughout WTI trading history - and straight-down crash from $147 to here is very unlikely to cut straight-through and leave $40 a formidable resistance on subsequent bounce. 3. Metals: Gold&Silver's O.I. is nearing the end of A-B-C correction. It's been massive: 600k->263k in gold, 190k->83k in silver, both in the space of 2008! Impending O.I. recovery will certainly result in new record gold prices! Platinum has enjoyed nice'n'steady O.I. growth 15k->17k within the last month, while price traded in relatively tight $800-900 rectangle, following straight-down crash from $2300 record. This is rare O.I. Bullish set-up: basing price action, paired with O.I. accumulation! Comex Copper's O.I. has always been difficult to gage - as London and Shanghai have taken up varied significant share from time to time. Only note: like $40/barrel Crude, $1.40/lb has been important milestone in Copper's history. 4. SP: my observations here are on entirely different time-frame. Most striking is difference in daily O.I. behavior of bigSP vs. E-mini. Observed closely against daily price gyrations: bigSP's O.I. behavior appears to confirm (or dis-prove) price moves with much greater precision than E-mini's. E-mini's is by far more emotional and confused. It's interesting that E-mini's current O.I. of 3 million is exactly 5 times bigSP's of 600k - while, of course, each bigSP contract is 5 times the value and margin of E-mini's! This equal allocation of money between commitment to both contracts makes one think that they are perfectly arbitraged, and that daily position fixes between one another in comparison may well be random. If so, however - then why the bigSP's do appear so much more on-the-money? Glaring examples: all three panicky low closes of 10/10, 10/27 and 11/20 were accompanied by clearly expanding O.I. in E-mini's - and not so in bigSP! The day after those bottoms, market would rally strongly and show O.I. expansion in bigSP - but E-mini would only show Short-covering! In the latest two weeks, all three O.I. peaks in E-mini O.I. were registered on the close preceding significant price reversal - very poor record! BigSP traders just haven't recorded all those boo-boos... Most recent SP rectangle of 813-880 range has been accompanied by growing bigSP O.I. and contracting E-mini. True, these differentials have been slight and thus may not amount to strong indicators. Latest weekly Commitment of Traders (C.O.T.) report was clearly Bearish to mechanical users of that data - but my inclination is to use this recent O.I. study and override Bearish C.O.T. bias! . . . (to read the remainder of this article, please log in below.)