DislikedGuys, the COT aggregates order information referring to futures.
Commerical traders in this sense, would be entities which use futures as a means to fulfill their objectives of hedging themselves against foreign exchange risk; fluctuating exchange rates eating at their bottom lines.
Almost all commercial futures currency contract buying and selling (measured as Open Interest) is indeed hedging, for the reasons you have pointed out. Thank you. I was painting a metaphor only. A crude picture at best. After describing COT activity to folk in the past, I discovered that my petrol metaphor was easily digested and from there, understanding grows.
Can futures/options commercial OI accurately reflect likely commercial spot activity? I think so.
It helps to place the data into an oscillator equation (like a stochastic or Williams %R). This provides a relative perspective on the current data to prior data. The look back can be 3 months for a short-term outlook, 6 months for medium term and 3 years for long term (looking for multi-year extremes). The pictures posted used a 3 year look back. It can be a deceptive perspective though.
Are large traders typically good to follow? Let’s have a look.
Let’s use a 3 month look back on the pound. 3 month and 6 month look backs are the most useful, I find.
I have marked of optimal times to be long (green line) - Smart money should be LONG at these points - and optimal times to be short (red line) - Smart money should be SHORT at these times.
What are the large traders doing at these times? What are the commercials doing? And the public (me! – my gosh, that’s depressing and explains a lot J)
To my eye, the commercials, for the most part, appear to be in sync with the ebb and flow of the market. To my eye, the large traders “pattern of speculation” appears only marginally better than the public, who like to get long at the highs and short at the lows. This is not a “pattern of speculation” that works for me. Are they sometimes right? Yes. Are the usually right? The evidence does not suggest this to me.
I guess the real question is - Why does the collective commercial hedging activity increase or decrease, long and short? This discussion could go deeper, though I am apprehensive to do so (not my thread).
I have established two little PE-legs that I hope survive, thanks to this wonderful thread. Short Yen and Pound. The market looks “ripe” to me for a long term move, over the next few weeks/months. Time will tell I guess. I am after all, representing the "public" COT data (gulp!).
Again, thanks for your correct clarification.
Summary: When would I deploy my solders into the battle field?
1. At multi-year (three year look back) extremes in commercial activity.
2. Commercials heavily long in a weekly uptrend (generally in a pull back or congestion) (3 or 6 month look back)
3. Commercials heavily short in a weekly dntrend (generlly in a pull back or congestion) (3 or 6 month look back)
My research suggests that at these times the chances of legs surviving are greatly enhanced.
Other things can come into play, such as "valuation" as compared to US treasury bonds and gold, with similar effect (especially if they happen, at the same time).
Edit: Just to clarify (to paint a fuller, more correct picture), just because an organisation hedges, does not mean they are a commercial. They could be hedging, but still considered part of the public. Why?
Commercial and Non-commercial Traders: When an individual reportable trader is identified to the Commission, the trader is classified either as "commercial" or "non-commercial." All of a trader's reported futures positions in a commodity are classified as commercial if the trader uses futures contracts in that particular commodity for hedging as defined in CFTC Regulation 1.3(z), 17 CFR 1.3(z).
But what are the requirements to be required by law to report trading activity?
Commodity Number of contracts
Major-Foreign Currencies............................... 400
What does that mean?
Unless you hold 400 or more full contracts/lots - that's a lot of contracts (I actually think this number has gone up higher), you do not need to report positions to the CFCT. If you do not need to report to the CFCT, then you are placed into the "public" bucket, EVEN IF YOU ARE HEDGING FOR COMMERCIAL reasons. Hence, only the big boys are truly commercial traders, from the COT point of view.