Analyzing The Commitment of Traders [COT] Report

The Commitment of Traders Report is one of the prime sources of data for many futures and forex traders. You may have even seen the graphs referenced in our Weekly Reports. But what exactly does COT data tell you and how can you use it to improve your trading? We tackle these questions in our latest blog below.

What is COT Data?

Published by the Commodity Futures Trading Commission (CFTC), the Commitment of Traders Report provides a weekly snapshot of the aggregate holdings of the different participants in the futures market. The report shows a breakdown of open interest for futures and futures options where 20 or more traders hold positions large enough to meet the CFTC’s reporting levels.

By knowing the open positions, traders can better understand the dynamics of the futures market. It also provides an invaluable insight into where the big players are moving their money, how big position sizes are, and how they change over time. This information can help determine when to enter and exit trades and whether to take long or short positions.

Timeline

Tuesday — Reporting firms such as clearing members, futures commission merchants, and foreign brokers provide the CFTC with open position data.

Wednesday — The compiled data is then reviewed and verified by the CFTC.

Friday — The Commitment of Traders Report is released in the afternoon around 3:30 pm Eastern time.

You will notice that the COT report provides information on the following: open interest, non-commercial and commercial traders, and reportable and non-reportable positions. We take you through each of these categories below.

What is Open Interest in the COT Report?

The Commitment of Traders Report provides a breakdown of open interest for futures and futures options markets. But what is open interest?

Open interest is all the futures and futures options contracts that have been entered into and are not yet closed. This means that the contracts are still ‘open’ and have not been offset by transacting out, delivery, or exercise of the contract.

As there are two parties to every contract, the total of all long open interest will be equal to the total of all short open interest.

Futures options positions are converted to their equivalent futures positions. So long call and short put positions are converted to the equivalent long futures open interest. While short call and long put positions are converted to short futures equivalent open interest. For example, 100 long call contracts with a delta of 0.5 are considered the equivalent of 50 long futures contracts.

Who are commercial and non-commercial traders?

Legal constraints prevent the CFTC from revealing individual traders’ positions as they are part of confidential business practices. Instead, the Commitment of Trader Reports separates open interest into two classifications — commercial and non-commercial traders.

Commercial Traders are hedgers. They are the big corporations that use hedging as a defense against large price fluctuations and unexpected price movements. Commercial Traders are generally a mix of agricultural producers that want to minimize risk in changing commodity prices or large banks and corporations that hedge currency futures to minimize risk from exchange rate fluctuations.

Non-Commercial Traders are large speculators. They are generally made up of a mixture of big money individual traders, hedge funds, and financial institutions that have no interest in owning the underlying commodity. Rather their goal is to make a profit from price movement reverses. As non-commercial traders are major players with large position sizes, their trading activities can cause the markets to move drastically.

A trader can be classed as a ‘commercial trader’ in some commodities and as a ‘non-commercial trader’ in others. However, a single trader cannot be classed as both ‘commercial trader’ and ‘non-commercial trader’ in the same commodity. If a trader holds any open positions in a commodity for hedging, all of the trader’s open positions in that commodity will be classed as a ‘commercial trader’.

What are reportable and non-reportable positions?

The COT report shows a breakdown of open interest where traders hold positions above the CFTC reporting levels. As we’ve shown above, open interest is then separated into ‘commercial’ and ‘non-commercial’ traders — but what about the small retail traders?

Reportable positions are all the open positions required to be reported to the CFTC. Reporting firms are required to provide the CFTC with details of all open positions that meet CFTC regulations. Reportable positions usually account for 70–90% of all open positions in the futures markets.

Non-reportable Positions are all the open positions that do not meet the reportable requirements of the CFTC. These figures are derived by subtracting the long and short ‘reportable positions’ from the total open interest. Non-reportable positions are not categorized as commercial or non-commercial traders but are generally thought to be small speculators and retail traders who are not holding positions large enough to warrant reporting to the CFTC.

Types of Reports

The Commitment of Trader Report is made up of four smaller reports: Legacy, Supplemental, Disaggregates, Traders in Financial Futures reports. We take you through each report below.

COT Legacy Report

The most well known and arguably the most used report is the COT Legacy Report. The Legacy COT is broken down by exchange and has a futures only report and a combined futures and futures options report. The report further breaks down reportable open interest into long, short, and spread positions for commercial, non-commercial, and non-reportable positions.

Long positions — trades open that are buying futures contracts.

Short positions — trades open that are selling futures contracts.

Spread positions — covers trades that hold an equal amount of long and short positions on future contracts.

COT Supplemental Report

The COT Supplemental Report includes the combined futures and options positions of 13 select agricultural commodities. The open positions in each commodity are broken down into commercial, non-commercial, and index traders.

COT Disaggregated Report

The COT Disaggregated Report includes a futures only and a combined futures and options report on the separate grains, energies, meats, metals, and softs markets. Each report further separates reportable open interest into the following categories that are meant to provide a clearer picture of how the ‘producers’ and ‘users’ of the commodity are positioned as opposed to other users that are purely speculators :

• Producer/Merchant/Processor/User — Entities that engage in the production, packing, processing, or handling of the physical commodity and uses the futures market to hedge risk associated with these activities.
• Swap Dealers — Entities that deal in swaps for commodities and use the futures market to hedge risk associated with these swap transactions.
• Managed Money — Registered commodity trading advisors, registered commodity pool operator, or unregistered funds that are involved in managing futures trading on behalf of clients.
• Other Reportables — All other reportables traders that do not fit into the first three categories.

COT Traders in Financial Futures (TFF) Report

The final part of the COT report is the Traders in Financial Futures (TFF) Report. This section includes financial contracts such as currencies, VIX, stocks, and U.S. Treasury Securities. Each report further separates reportable open interest into the following four classifications:

• Dealer/Intermediary — The ‘sell-side’ of the market. These participants include large banks and dealers that sell futures or sell various financial assets to their clients.
• Asset Manager/Institutional — Institutional investors such as pension funds, insurance companies, mutual funds, and portfolio managers whose clients are institutional.
• Leveraged Funds — These participants are typically hedge funds and money managers that speculate on behalf of their clients.
• Other Reportables — Any participants that do not fit into the above three categories. These traders are typically reportable traders, smaller banks, and credit unions.

How Do You Use The Commitment of Traders Report?

It’s one thing to understand the COT data and another thing to apply it to your trading. Here are two ways you can use COT data to improve your trading.

Follow the Big Money

A real advantage of COT data is being able to monitor how positions change over time. This provides a deeper insight into where the big players and market movers are shuffling around their investments. Keeping an eye on where the big money flows could tip you off to assets that are next in line to form big trends.

For example, if you notice an outflow of funds from equities but an inflow in gold, this suggests that institutional money is looking for a safe haven asset. However, if you can’t find a corresponding inflow this could be a sign that the institutions are ‘profit-taking’ and waiting on the sidelines for retail traders to be stopped out of the market so the big money can re-enter on the dip.

Remember, large speculators hold positions big enough to dramatically shake up the market. Don’t even try to trade against them. Monitor and move with the smart money.

Market Reversals

Another way to use the COT report is as an indicator of market reversals. By looking out for extreme net long or extreme net short positions, traders can spot future potential reversals in the market. You will know from previous discussions about supply and demand that if there is an extreme amount of long positions for an asset, there will be fewer participants left to buy and if there is an extreme amount of short positions, there will be fewer participants left to sell.

These scenarios can potentially signal ideal times to enter into positions. However, as market sentiment can stay at extremes for long periods of time, always use COT data in conjunction with other technical analysis tools that will help verify and confirm upcoming reversals.

Limitations of COT Data

The primary purpose of the COT data is to increase transparency to deter price manipulation in the futures markets. That said, the biggest weakness of COT data is also transparency. This mainly stems from the little information known as to how the CFTC characterizes individual traders.

As the CFTC categorizes open interest in terms of traders (commercial or non-commercial) rather than their positions, critics argue that the data is still too aggregated to be useful.

For example, a large bank that holds a mix of hedging and speculative positions in a currency, say a small hedge on the Euro and a much larger speculative position in the Euro, will have all its positions characterized as a ‘commercial trader’. Other traders looking at the COT data will intercept this information as a much larger hedge. This muddies the waters and does not provide an accurate representation of the bank's true position in the futures market.

The Commitment of Trader Report can provide valuable insights into the futures markets. But like every tool in a trader’s technical analysis toolbox, COT data should always be used in conjunction with further analysis and a complete trading strategy.

Previously published on https://echelon-1.com/commitment-of-traders-report/