How to Use the New Commitments of Traders Report to Catch Trends

For Futures and Options Traders

Reproduction or use of the text or pictorial content in any manner without written permission is prohibited. Copyright 1934-2011 Commodity Research BureauCRB, a Barchart.com, Inc. Company. All rights reserved. 330 South Wells Street Sixth Floor Chicago, Illinois 60606-7110 USA Phone: 800.621.5271 or 312.554.8456 Fax: 312.939.4135 Email: info@crbtrader.com Website: www.crbtrader.com All charts provided by www.pricecharts.com Commitments of Traders Commodity Futures Trading Commission (CFTC) - www.cftc.gov

The information herein is compiled from public sources believed to be reliable but is not guaranteed as to its accuracy or completeness. No responsibility is assumed for the use of this material and no express or implied warranties are made. Nothing contained herein shall be constructed as an offer to buy/sell, or as a solicitation to buy/sell, any security, commodity or derivatives instrument.

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INTRODUCTION
If you are trading futures, Forex, Exchange-Traded Funds (ETFs), or options I cannot stress enough the importance of incorporating the new COT report into your trading. As someone who has been involved in the futures business for over 25 years I have seen it all. I have seen professional traders blow out millions on the floor and have seen small retail traders lose everything and not have a clue as to what happened. Theres an old saying that you can never go broke by taking profits. I believe that statement to be true, as long as the profits outstrip the losses. I see too many traders who are very happy to capture small profits, as the immediate gratification of making any kind of gains makes them feel good. The issue they encounter is that those small gains, over time, cannot compensate for the inevitable losses that are a natural consequence of trading, and the costs associated with trading. In the following pages you will learn about a tool that can help you get into a trade and maximize your profits. You will have greater confidence when you see clearly who is supporting the trade you are in, and if and when you should tighten your stops when necessary. It does not matter if you trade futures or options, this tool will be extremely helpful in managing your trades. Of course if you have any questions about anything you read in this book feel free to contact me either by email - Gary@CRBtrader.com or you can call me at 312-506-8706. Trade well and follow the trend. Gary Kamen Our greatest weakness lies in giving up. The most certain way to succeed is always to try just one more time. -Thomas A. Edison

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The Commitments of Traders Report

The first Commitments of Traders (COT) report was published for 13 agricultural commodities as of June 30, 1962. At the time, this report was proclaimed as another step forward in the policy of providing the public with current and basic data on futures market operations. Those original reports were compiled on an end-ofmonth basis and were published on the 11th or 12th calendar day of the following month. The purpose of the COT was to differentiate between 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 traders 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 the Commissions regulations. A trading entity generally gets classified as a commercial by filing a statement with the Commission that it is commercially engaged in business activities hedged by the use of the futures or option markets. In order to ensure that traders are classified with accuracy and consistency, the Commission staff may exercise judgment in re-classifying a trader if it has additional information about the traders use of the markets. A trader may be classified as a commercial in some commodities and as a non-commercial in other commodities. A single trading entity cannot be classified as both a commercial and non-commercial in the same commodity. Nonetheless, a multi-functional organization that has more than one trading entity may have each trading entity classified separately in a commodity. For example, a financial organization trading in financial futures may have a banking entity whose positions are classified as commercial and have a separate money-management entity whose positions are classified as non-commercial. The COT gradually became known as a tool that commodity traders checked in an attempt to see the thinking of the large speculators, and the commercials. For most observers, it was a given that the commercials, and the large speculators, are more knowledgeable about the markets than the small speculators. Commitments of Traders Charts The Commitments of Traders charts illustrate the directions in which three different categories of investors believe a given commodity is headed. These three categories (Commercials, Large Speculators and Small Speculators) are based on the following definitions: Commercials (AKA hedgers) are people or companies that deal with actual commodities as part of doing business. They trade in those futures as a hedge against the risks they run in the course of that business. Commercials are exempt from position limits and post smaller margins than speculators. Large speculators are traders whose trading levels are high enough that they require reporting to the CFTC (Commodity Futures Trading Commission). These trading levels vary from one commodity to another and often from one year to another. Small speculators are the traders remaining after the commercials and large speculators have been subtracted from the total open interests. The Commodity Futures Trading Commission releases its Commitments of Traders report once a week, each Friday. It summarizes changes in futures positions in all major commodities by all major players. While tremendously useful, the COT is so complex that an air of mysticism has sprung up around it. Since the raw COT data is so specialized, not many retail traders, novice or experienced use this vital information. If you look at Open Interest, not knowing who the players are could cost you. The following pages will help you incorporate this information into your trading and help with catching the big market moves we are all searching for. It is more of a compass, showing a direction of the markets, than a timing tool. Though there are no hard and fast rules about the success of each of these divisions, it is generally assumed that the commercials are the most successful. The large speculators used to be successful as well but in recent years have done poorly as a group. The small investors are often looked at as the example of what not to do in futures trading.

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The Commitments of TradersThe Legacy Report

Rising open interest tells us new buyers are entering a market and for every new buyer, there must be a new seller for open interest to increase. How does this help the technician validate a price trend? The analyst needs to know the relative acumen of each new trader to determine whether rising open interest is bullish or bearish. Fortunately, there is a tool that fills in this critical missing element the Commitments of Traders report. Every Friday, the Commodity Futures Trading Commission (CFTC) releases two weekly breakdowns. Open interest is reported for large commercial hedgers, large speculators and small traders. It is impossible to make an intelligent analysis of open interest without referring to the Commitments of Traders (COT) report. This report is essential reading; without it, you have no idea who you are trading against or with. (To get the best views and analysis of the COT Report and the Commercial Tracker, go to www.pricecharts.com) Commercials have shown an uncanny ability to position heavily just before important market turns. As large cash merchants in the business, commercials maintain their own intelligence-gathering networks and analysts. In fact, in some markets such as coffee, cocoa and sugar commercial trade houses are the primary source of fundamental supply and demand statistics available to the trading public. Assuming the statistics are accurately reported, you can be sure they already have been acted on in the market before the data is disseminated to the public. The COT report detects these actual market manipulations. Besides a decided informational advantage, large commercials by definition trade in sizes large enough to move markets. Given these advantages, their futures trading prowess is not surprising. Of course, as with most methods theres a wrong way to use COT reports, as well. Many have proposed either riding the coattails of large speculators, under the assumption they know what theyre doing, or fading small traders, under the assumption they dont. But historically, these approaches prove to be inferior to watching commercials. Although each COT report contains many statistics, of primary concern to futures traders are the actual positions and the changes from the prior report, included in each release. Some analysts work directly from the raw numbers, but the data are most easily analyzed when graphed as net positions opposite a price chart (the best place to see this is on the weekly charts at Pricecharts.com- see the charts on the following pages). To derive the net position for each trader category, simply subtract the short contracts from the long. A positive result indicates a net long position (more long than short contracts) and a negative difference denotes a net short position (more shorts than longs). Whether a particular trader group is net long or short is not important to the analysis net positions relative to historical levels are. Each futures market is made up of a unique mixture of traders. In silver, large hedgers are primarily producers who hedge against price declines by selling forward in the futures market. As a result, commercials have never been net long in silver. In gold, however, the commercial mix is more heavily weighted with fabricators who buy long contracts as a hedge against future inventory needs and rising prices. In aggregate, commercials are as often net long as net short in gold. Therefore a simple net position is meaningless; it is imperative to compare the current net position with recent historical levels in the respective market. The relative bullishness of the commercial net position is easier to see when you can view the current net position with both the highest net commercial position and the lowest net commercial position over a selected period of time. (SEE-Commercial Tracker at Pricecharts.com) Legendary trader Daniel Drew is credited with the adage Anybody who plays the market without inside information is like a man buying cows in the moonlight. Large commercial hedging firms enjoy an enormous inside informational advantage over other market participants. The COT report levels the playing field by exposing the players behind the trades. Indeed, trading without reference to it might well be likened to buying cows in the moonlight. Pricecharts.com has the exact tool needed for this analysis. It is called the Commercial Tracker and it tracks the commercials for the past 52-weeks.

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The New Disaggregated Commitments of Traders Report Explained

The Commodity Futures Trading Commission started publishing a Disaggregated Commitments of Traders (Disaggregated COT) report on September 4, 2009. The first iteration of the new report covers 22 major physical commodity markets. This report is published in a futures-only format as well as a futures-and-options-combined format. The data is available in both a long format and a short format. The new report increases transparency from past Commitments of Traders (COT) reports by separating traders into the following four categories of traders: Producer/Merchant/Processor/User (true Commercials); Swap Dealers*; Managed Money; and Other Reportables. The current legacy report separates reportable traders only into commercial and non-commercial categories. This new Disaggregated COT report is published side-by-side with the Legacy COT formats. The Commission is soliciting comment on the new report and will review whether to continue to publish both sideby-side or to replace the existing report with the new report. This initiative for providing new market transparency arises from the recommendation to disaggregate the existing commercial category in the Commissions September 2008 Staff Report on Commodity Swap Dealers & Index Traders. Specifically, that report recommended: Remove Swap Dealer from Commercial Category and Create New Swap Dealer.* Classification for Reporting Purposes: In order to provide for increased transparency of the exchange traded futures and options markets, the Commission has instructed the staff to develop a proposal to enhance and improve the CFTCs weekly Commitments of Traders Report by including more delineated trader classification categories beyond commercial and noncommercial, which may include at a minimum the addition of a separate category identifying the trading of swap dealers. *A swap is an agreement between two parties to exchange sequences of cash flows for a set period of time. Usually, at the time the contract is initiated, at least one of these series of cash flows is determined by a random or uncertain variable, such as an interest rate, foreign exchange rate, equity price or commodity price. Conceptually, one may view a swap as either a portfolio of forward contracts, or as a long position in one bond coupled with a short position in another bond. The Swaps Market Unlike most standardized options and futures contracts, swaps are not exchange-traded instruments. Instead, swaps are customized contracts that are traded in the over-the-counter (OTC) market between private parties. Firms and financial institutions dominate the swaps market, with few (if any) individuals ever participating. Because swaps occur on the OTC market, there is always the risk of a counterparty defaulting on the swap. In 1987, the International Swaps and Derivatives Association (ISDA) reported that the swaps market had a total notional value of $865.6 billion. By mid-2006, this figure exceeded $250 trillion, according to the Bank for International Settlements. Thats more than 15 times the size of the U.S. public equities market. Keep in mind the ISDA did attempt to stop the Swap Dealer positions from being removed from the Commercials and given their own category. Luckily for the small retail speculator that did not work. Looking at the old report and the new report together you will see why this was so important. The charts on the following pages will give you the perfect picture you need to analyze both reports. The charts I use

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for the COT can be found at www.pricecharts.com. If you need any assistance with incorporating this vital report into your trading please email me at Gary@CRBtrader.com or call me at 312-506-8706. Who are the Swap Dealers? As of December 31, 2009 based on notional amounts of derivative contracts held for trading the following 5 financial institutions are the top swap dealers. 1. JPMorgan Chase 2. Bank of America 3. Goldman Sachs 4. Citibank 5. Wells Fargo No surprises here. The next 15 are also large financial institutions. (Information provided by the Comptroller of the Currency.)

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CHARTS OF THE OLD and NEW COT

As you can see from the chart above the Commercials are net short 368,016 Corn contracts. You can see who the sellers are in bull market. Remember in all markets there are buyers and sellers. Knowing who these folks are can help with your trading decisions. On the next page we will see the more transparent Disaggregated COT report.
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As you can see above, the Legacy COT report (top) shows commercials at 368,016 contracts net short. The new COT report (bottom) shows a more transparent picture of the smart money players. You see that the true commercials (producers) are actually 747,587 contracts net short and the Swap Dealers are 379,571 net long. Managed money shows a net long of 340,855 contracts net long. See what happens to the price action as managed money begins adding to their net longs. Also see how long our friends the swap dealers have been adding to their net longs.

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Looking at the above chart you can see for yourself what happens to the price when commercials are net long or net short Wheat. Viewing the next chart with the new disaggregated report will give you a better understanding on what is happening with the smart money.

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Looking at the Legacy COT report (top) you see the commercials start liquidating their net longs and head into a net short posture. You can see that the commercials were 6,485 contracts net short. The new COT report (bottom) does show the true commercials (producers) actually net short 169,005 contracts and the swap dealers net long 162,520 contracts. Managed money shows a net long position of 39,331 contracts. Like with corn, look what happens when the managed money starts adding to their net longs, plus look how long the swap dealers have been adding to their net long positions.

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The chart above really highlights who exactly the sellers are in an uptrending market. The Commercials as of last week were net short 62,175 contracts. Knowing who supports the trend will give you greater confidence in your trading decisions. The new COT report on the next page will give you an even better picture of Open Interest.

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Looking at the Legacy COT report (top) we see that commercials are 62,175 contracts net short. The new COT (bottom) shows that true commercials (producers) are actually 110,638 contracts net short and the swap dealers are 48,463 contracts net long. Managed money shows a net long of 58,540 contracts. Looking back to mid-March 2009 you can see managed money and true commercials pulling away from each other. Of course our friends the swap dealers have been net long Cotton for years.

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Looking at the above chart you see that once again the commercials are at an extreme net short position of 302,740 contracts. You can see what happens as this group adds to their shorts or liquidates their shorts. The next chart will provide a clearer picture of the speculators and the hedgers in this market.

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See the change in posture for the swap dealers. Looking at the Legacy COT report (top) commercials are at an extreme net short position of 302,740 contracts. Now looking at the new COT (bottom) you will see that the true commercials (producers) are net short 190,184 and the swap dealers, posturing as hedgers, are net short 112,556 contracts. Managed money holds net longs at 224,408 contracts.

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Now you try it yourself. Look at the Crude weekly chart above and see how the smart money postures at any given time and the price action created. All charts provided by www.pricecharts.com

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CRB Futures Market Service

One characteristic that all successful traders seem to share is their ability to fully understand the markets they are trading. - Jim Rogers-Author Hot Commodities DO NOT make one of the biggest mistakes traders make in the futures industry. Not being educated enough on the fundamentals of the markets they trade. Getting this vital information is much easier then you think, just ask Jim Rogers, a customer of the Commodity Research Bureau since 1971. Respond to the offer below and start receiving the CRB Futures Market Service. You will receive: Daily Futures Market Service - Emailed before the opening bell each morning, Monday through Friday. Includes overnight developments from Asia and Europe that you need to know about to make informed trading decisions for the coming day US Economic Previews with expert analysis on Stock Indices, Interest Rates, Forex, Energies, Metals, and Grains. Indispensable Financial and Commodity Calendars, plus Morning Quotes a must-read with your morning cup of coffee as you prepare for the trading day Futures Market Service -emailed every Thursday evening. In depth coverage on most of the futures markets including FOREX. With our fundamental outlook and directional bias you will have a solid idea of market direction. Provides you with greater confidence and instills you with greater conviction in you trading decisions.

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Other Commodity Research Bureau Publications:

50 Rules of Futures Trading Charting Tools for Professional Traders Guide to Technical Indicators - Volume 1 Guide to Technical Indicators - Volume 2 Guide to Trading How to Spot Profitable Timing Signals How to Use Charts to Forecast Futures Prices To order, please contact us at 1.800.621.5271 or 1.312.554.8456 Fax: 312.939.4135 Email: info@crbtrader.com

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