In your reports you will mention for some options whether there is low open interest or no open interest. How am I supposed to interpret this? (January 30, 2002)
Open interest tells us how many options contracts are open. We look at open interest because it tells us the liquidity of a particular option. If there is low liquidity, there is typically not going to be the same opportunity to 'shave' the spread - that is, get a price inside the ask if you are buying or the bid if you are selling. Also, a major consequence of low open interest is the effectiveness of stop orders. We can use stop orders on options like we can with stock, but with an option with low open interest there may well not be a trade that will trigger your stop. This makes it advisable to manually enter your sell price when a target or stop price has been hit.
We point out that there is less than 100 open interest because we find that over 100 can provide the necessary volume to overcome the problems discussed in the preceding paragraph. The more the better, but when you get under 100 liquidity becomes a real issue. Moreover, even if there is over 100 contracts out there, we do not like to be more than ten percent of the market. Having a substantial amount of open interest is nice, but does not mean much if a large chunk of it is your own position.
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