In commodities futures trading, the Commitments of Traders (COT) report is the only source of insight into the market positions of the key players. The COT report provides a breakdown of each Tuesday’s open interest for markets in which 20 or more traders hold positions equal to or above the reporting levels established by the CFTC.The CFTC classifies traders into three groups: commercial traders, non-commercial traders (large speculators), and small traders (small speculators). All of a trader’s reported futures positions in a commodity are classified as commercial if the trader uses those contracts for hedging.
COMMERCIALS
Traders get classified as commercial by filing a statement with the CFTC that they are commercially “engaged in business activities hedged by the use of the futures or option markets.”
Commercial hedgers are institutions and individuals who operate in the cash market of the underlying commodity. Examples include farmers, international businesses, miners, and processors. When prices are high, the commercials hedge their futures sales by selling futures to minimize risk. If prices fall, they will be protected by their futures positions.
Commercials are considered to be the most influential group in the commodities markets, because they have analysts and sources of intelligence that analyze a number of variables. Although you will never know what information they have at their disposal, by examining the COT data, you can see what positions they take. This is the key point in all of this.
These “Big Dogs” are worth paying attention to – especially at extreme positions, since their buying or selling strength can move the markets. They’re like a herd of elephants stomping along a muddy river bank. You can’t miss their foot prints for sure.
NON-COMMERCIALS (OR LARGE SPECULATORS)
The non-commercials, or “large speculators,” take on risk in return for the opportunity to profit. They are speculative traders, who are generally classified as fund managers. These are trend followers, and as such are not terribly accurate most of the time - but not all the time.
SMALL SPECULATORS
This category includes all speculators with positions below reportable limits, as specified by the CFTC, and small hedgers.
SPREADING
Non-commercial positions also include spreading. Commercial traders are not perceived as spread traders, since they are hedging against an actual commodity. The small traders may have a spread as a position, but their individual positions are not reported since spreading in this group is relatively small.
COT: THE BIG DEAL
When analyzing historical stock prices, we are limited to five variables – i.e., the opening price, high, low, closing price, and volume in a time series (hourly, daily, weekly, etc.) The same holds true for futures, with the exception that there is also the element of open interest, which is the total of all futures and/or open contracts entered into - not yet offset by a delivery, exercise, or transaction. The aggregate of all long open interest is equal to the aggregate of all short open interest. Open interest held or controlled by a trader is referred to as that trader’s position.
As traders apply the various indicators available to them, like Bollinger Bands, RSI, Stochastic, etc., they are simply manipulating the same underlying data in an effort to make trading decisions. While the number of these manipulations is unlimited, the dataset itself is finite, never really being able to reveal any new, or more meaningful information. For futures trading, on the other hand, the COT reports provide additional and independent datasets for analysis.
The COT information is independent of price data, as COT data is not derived from price data. As such, the COT metrics take on a whole new level of importance.
The COT reports contain a myriad of raw numbers, far too many for the average person to comprehend. It is just a maze of data, which in and of itself is terribly difficult to read and understand.
To simplify the process of understanding what all the numbers really mean, we have created a section on this website called Weekly COT Data. click HERE to access COT Charts.
Here you see commercial, non-commercial, and non-reportable positions nicely portrayed in graphical form. All the arithmetic is done for you. In other words, each respective line above is net of long and short positions for ease of reference. If all positions were summed together, you would have a straight line, since they would neutralize each other in total.
Spreads are not included in the COT graph since they are neutral (one spread = one long and one short contract). The total long positions will equal the total short positions for all three groups.
RULES
There are no hard and fast rules when it comes to interpreting the effect any one group has on the futures markets. However, it is generally accepted that the commercials, or the “Big Dogs,” deserve the most respect. They are assumed to be the most successful, albeit there are times when the large speculators will indicate the strength of their commitment as greater than the other two groups. The small traders are often seen as the “dumb money,” the group to stay away from – the example of what not to do in futures trading.
THE BIG CLUE
In the graph, you will notice that the comm. index and the spec index are at odds with each other. What this is telling you is that, with such extreme divergence of opinion or “sentiment,” the underlying tradable is about to experience a reversal of price direction – i.e., up. That is because the commercials are heavily long, and at a 100 reading, versus the 0 reading for the opposing side. This is the extremity you should always be looking for before taking your own position in the market.
The only exception to this “rule” is where you see “backwardation,” or “premium.” This means that the front month is priced higher than the back month, and what this means is that the commercials really want the underlying product. I saw this happen recently with US dollar index.
Word of warning … never short a currency where the “Big Dogs” are extremely short, but there is a premium on the front month. The “Big Dogs” are having their cake and eating it too. Don’t you get eaten alive in the process. When the premium starts to fade and disappears, and the “Big Dogs” are still heavily short, then you can safely short the currency.
The most important aspect of the C.O.T. report for most traders is the change in net positions of the commercial hedgers. Why? Because studies show that commercials hold a superior record to other trading groups in forecasting significant market moves. The large commercials are generally believed to have the best fundamental supply and demand information on their markets, and thus position their trades accordingly.
Along with the advantage of having the best fundamental supply and demand information on their markets, large commercials also trade large size, which in itself moves markets in their favor. It's important here to note that whether a particular trader group is net long or net short is not important to analyzing the C.O.T. report. For example, commercials in silver are the producers and they have never been net long, because they hedge their sales. In gold, however, the commercial mix is more heavily weighted toward fabricators who buy long contracts as a hedge against future inventory needs. So, again you need to look at the net change in positions from the previous report or several of the recent reports.
Individual traders that consider positioning themselves on the same side of the market as large commercials, when the large commercials become one-sided in their market view, is the best way to utilize the C.O.T. report.
Some traders do like to take the opposite sides of the trades on which the small trader in the C.O.T. reports are shown taking. This is because most small speculative traders of futures markets are usually under-capitalized and/or on the wrong side of the market.
Also, some traders will also follow the coat-tails of the large speculators, thinking the large specs must be good traders or they would not be in the large trader category.
COMMERCIALS
Traders get classified as commercial by filing a statement with the CFTC that they are commercially “engaged in business activities hedged by the use of the futures or option markets.”
Commercial hedgers are institutions and individuals who operate in the cash market of the underlying commodity. Examples include farmers, international businesses, miners, and processors. When prices are high, the commercials hedge their futures sales by selling futures to minimize risk. If prices fall, they will be protected by their futures positions.
Commercials are considered to be the most influential group in the commodities markets, because they have analysts and sources of intelligence that analyze a number of variables. Although you will never know what information they have at their disposal, by examining the COT data, you can see what positions they take. This is the key point in all of this.
These “Big Dogs” are worth paying attention to – especially at extreme positions, since their buying or selling strength can move the markets. They’re like a herd of elephants stomping along a muddy river bank. You can’t miss their foot prints for sure.
NON-COMMERCIALS (OR LARGE SPECULATORS)
The non-commercials, or “large speculators,” take on risk in return for the opportunity to profit. They are speculative traders, who are generally classified as fund managers. These are trend followers, and as such are not terribly accurate most of the time - but not all the time.
SMALL SPECULATORS
This category includes all speculators with positions below reportable limits, as specified by the CFTC, and small hedgers.
SPREADING
Non-commercial positions also include spreading. Commercial traders are not perceived as spread traders, since they are hedging against an actual commodity. The small traders may have a spread as a position, but their individual positions are not reported since spreading in this group is relatively small.
COT: THE BIG DEAL
When analyzing historical stock prices, we are limited to five variables – i.e., the opening price, high, low, closing price, and volume in a time series (hourly, daily, weekly, etc.) The same holds true for futures, with the exception that there is also the element of open interest, which is the total of all futures and/or open contracts entered into - not yet offset by a delivery, exercise, or transaction. The aggregate of all long open interest is equal to the aggregate of all short open interest. Open interest held or controlled by a trader is referred to as that trader’s position.
As traders apply the various indicators available to them, like Bollinger Bands, RSI, Stochastic, etc., they are simply manipulating the same underlying data in an effort to make trading decisions. While the number of these manipulations is unlimited, the dataset itself is finite, never really being able to reveal any new, or more meaningful information. For futures trading, on the other hand, the COT reports provide additional and independent datasets for analysis.
The COT information is independent of price data, as COT data is not derived from price data. As such, the COT metrics take on a whole new level of importance.
The COT reports contain a myriad of raw numbers, far too many for the average person to comprehend. It is just a maze of data, which in and of itself is terribly difficult to read and understand.
To simplify the process of understanding what all the numbers really mean, we have created a section on this website called Weekly COT Data. click HERE to access COT Charts.
Here you see commercial, non-commercial, and non-reportable positions nicely portrayed in graphical form. All the arithmetic is done for you. In other words, each respective line above is net of long and short positions for ease of reference. If all positions were summed together, you would have a straight line, since they would neutralize each other in total.
Spreads are not included in the COT graph since they are neutral (one spread = one long and one short contract). The total long positions will equal the total short positions for all three groups.
RULES
There are no hard and fast rules when it comes to interpreting the effect any one group has on the futures markets. However, it is generally accepted that the commercials, or the “Big Dogs,” deserve the most respect. They are assumed to be the most successful, albeit there are times when the large speculators will indicate the strength of their commitment as greater than the other two groups. The small traders are often seen as the “dumb money,” the group to stay away from – the example of what not to do in futures trading.
THE BIG CLUE
In the graph, you will notice that the comm. index and the spec index are at odds with each other. What this is telling you is that, with such extreme divergence of opinion or “sentiment,” the underlying tradable is about to experience a reversal of price direction – i.e., up. That is because the commercials are heavily long, and at a 100 reading, versus the 0 reading for the opposing side. This is the extremity you should always be looking for before taking your own position in the market.
The only exception to this “rule” is where you see “backwardation,” or “premium.” This means that the front month is priced higher than the back month, and what this means is that the commercials really want the underlying product. I saw this happen recently with US dollar index.
Word of warning … never short a currency where the “Big Dogs” are extremely short, but there is a premium on the front month. The “Big Dogs” are having their cake and eating it too. Don’t you get eaten alive in the process. When the premium starts to fade and disappears, and the “Big Dogs” are still heavily short, then you can safely short the currency.
The most important aspect of the C.O.T. report for most traders is the change in net positions of the commercial hedgers. Why? Because studies show that commercials hold a superior record to other trading groups in forecasting significant market moves. The large commercials are generally believed to have the best fundamental supply and demand information on their markets, and thus position their trades accordingly.
Along with the advantage of having the best fundamental supply and demand information on their markets, large commercials also trade large size, which in itself moves markets in their favor. It's important here to note that whether a particular trader group is net long or net short is not important to analyzing the C.O.T. report. For example, commercials in silver are the producers and they have never been net long, because they hedge their sales. In gold, however, the commercial mix is more heavily weighted toward fabricators who buy long contracts as a hedge against future inventory needs. So, again you need to look at the net change in positions from the previous report or several of the recent reports.
Individual traders that consider positioning themselves on the same side of the market as large commercials, when the large commercials become one-sided in their market view, is the best way to utilize the C.O.T. report.
Some traders do like to take the opposite sides of the trades on which the small trader in the C.O.T. reports are shown taking. This is because most small speculative traders of futures markets are usually under-capitalized and/or on the wrong side of the market.
Also, some traders will also follow the coat-tails of the large speculators, thinking the large specs must be good traders or they would not be in the large trader category.
