Best Thread Follow the Smart Money / COT Analysis

[Dunstan]

Hi everyone!

This thread I’m just opening, would like to share ideas about trading in the futures market using a simple but very effective tool, the Commitments of Traders report. I would be very much interested in your experiences and thoughts about this data and how it has helped your trading!

Personally I have first seen this data set roughly five years ago, and “fell in love with it” right away!
The concept that amused me at the time was that with this COT report you get a legal inside look in the markets --> you get to know what the main participants of these markets are doing!

If you are new to this report, let me explain to you the basics:

Who provides the COT report?
The report is prepared by the Commodity Futures Trading Commission (CFTC)

What does COT report show me?
The Commitments of Traders (COT) reports provide 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. It separates traders into three groups: Commercials, Large Speculators and Small Speculators. Commercials are those participants of the market who either produce that specific commodity or use it for the daily business. Large Speculators are generally big investors, hedge funds holding more contracts than the reporting limits, Small Speculators are the “rest” (you and me, who hold fewer contracts than the reporting limit. Conclusion: So basically the report shows you where these participants are standing on Tuesdays.
For an illustrated good explanation, I’ve found this video on YouTube, it explains everything in understandable English what the Commitments of Traders report is about.

When does the report come out and where can I access it?
It comes out usually on Fridays, but on holidays (such as 4th of July) it comes out usually the next week Monday. This is a free data that CFTC publishes every week and is accessible on it’s site (here).

For many years I had to go through a relatively difficult process of first downloading the COT data, converting it to usable format and then importing it in adequate program. If you check CFTC’s site, you will find that the data there is in a raw format that is hard to read… Well these days there are a few services that provide this data in an easily readable, graphical format. I’ve checked most of them, I think this one can be considered the best. I like it because it has the cleanest data available (combined and corrected data) and all the COT report types that are available today!

Let’s get down to business… How does the COT report help my trading?
Well since now we know that it gives you a legal insight on major market participants positions, simply – in accordance with the threads title – you just have to follow the Smart Money! Ok-ok… you might say: “yeah, sure, but who is the smart money?” Well doing your homework and studying the historical reports (the classic COT report has been published since 1986), you will easily see that at certain times, especially in extreme COT situations, knowing where the major players are positioned, will help you enter on the right side of the market.

I’ll show you some great examples soon, but for now, let me leave the “story” at this stage, I would be very much interested in your thoughts and ideas, so please share them with me and if you have any questions, I’ll try my very best to answer them!

All the best,
D

 

[SuddenDeath]

what a great thread.

 

[hereward the wake]

Looking forward to some examples thanks for the post

 

[Dunstan]

I’m glad that there’s already some excitement amongst you about this topic, so I think I’ll just stick to my promise and continue my explanation with a good example.

COT EXTREME signals
I think one of the best tools in COT analysis is the COT Extremes. It basically shows you where the given COT level stands historically. So if a reading says 93 for example, then it means that the current level of Open Interest for a given market participant (C-LS-SS) is at such level, where it stood exactly 93 reports ago.

My experience is, that the larger this COT extreme is, the greater the chance is for the market to change direction. There are so called ‘All-Time Extremes’ when the given group of traders have never stood at that level before. These are relatively rare situations, but they do happen from time to time.

It the following example, which is for Soybeans, I’ll show you how the Commercials Extremes can help you find turning points in the market. The red lines are indicating points in time, when the COT picture showed an opportunity to short the market, while the green ones are indicating good buy opportunities.

The example I’m showing you now is from late April, this year, when there was an All-Times COT Extreme picture -> Commercials were at All-Time short levels, while Large Speculators were never so optimistic about the market. In this case, Small Speculators were more or less neutral in the sense that they were not at an extreme level.

The reason I’m showing you this example is because just today, I have checked the most recent COT report and I found an even greater All-Time signal. The difference between the two picture is that today, the Small Speculators are also at an extreme level.

The reason I’m so excited about this, is because I think those are the best COT Extreme pictures, when all three main participants are at Extreme levels in the positions they’re holding.

I’m not say that trading only on COT signal is easy, but one thing’s for sure: sooner or later there will be (or there is already!) such a stress level in soybeans that will push prices lower.

Stay tuned, I'll be coming back with some more example shortly!
Meanwhile, if you have any questions, please don’t hesitate to ask!

 

[Dunstan]

EXTREME COT CHANGES
The title sounds similar to the previous post, the difference here is that we are looking at sudden large changes in the positions held by the main participants of the markets (C-LS-SS).

To give you a great example, let me show you an example from 2010 on the oats market. Actually here I can show you a Buy and a Sell signal from Commercials close to each other in time. If you look carefully, you could see that the two circled changes are much greater than the surrounding changes that can be considered average size changes. Obviously the green circle is indicating a Buy, the red circle a Sell signal.

Before I had to check each and every market week-by-week and search for these large movements… these days I rely on programs that do it for me. If you would like an easy solution, use a service that can show you these signals. The one I’m using now does it by taking the current change and compares it to a pre-defined range. The good thing about it, is that I have the option of defining the range myself, example: for one year range, all-time range or even 43 weeks range (!) if that’s my desire.

Let me show this on the latest report on RBOB Gasoline:
The system is showing me the changes on a 52 week (1 year) time period. It shows that Commercials have changed their net short level and went even more short. This change was 10%. What does it mean? Well I’ve drawn the 100% with purple and the chart is set to show the past 1 year. I’ve indicated (with red) the 10% change, which is measured to this 100% total range. It’s that simple. Now obviously if you’re using such a system, all you need to do is let the system search automatically for the largest changes that happened and then you only need to analyze those and see whether there is an opportunity to get in the market or not.

 

[Dunstan]

COT Index
In the following example I would like to explain to you another great COT analysis tool, the COT Index. It is also a measuring “device” for extreme pictures in the Commitments of Traders report, but here the Index shows us in percentage – compared to a specific time period – how far we are from the range.

In the following example (on Corn), I’m showing you what the 95% COT Index in Small Speculators means. I set the chart to show a three year period and I set the COT Index to for the same period. I drew the 0% and 100% lines so it’s easier to see what this 95% means.

If you look carefully, when Small Speculators were close to 100%, prices declined shortly afterwards. When Small Speculators were closer to 0%, prices soon started to increase.

 

[Dunstan]

Follow the smart money / Large Speculators

It is important to see that in the long term, Large Speculators are the ones, who are following the trend, so it is important to have your eyes on them all the time. In the following example you should see what I mean!

 

[Dunstan]

The last interesting signal I would like to show you, is actually relatively new to me as well, I’ve read it here, the so called “Commercial Capitulation”, let me quote what they said about it:

Commercials hedge the most when they believe that the actual price is very favorable for them to hedge their future production. While they have an information advantage, they still cannot know the future. Sometimes, major shifts occur, that forces Commercials to unwind their hedge positions. Since they generally have deep pockets, their stress barrier is high, but not absolute. As the losses grow to critical levels on their trading accounts, they have to liquidate: buy back short contracts or sell the longs. These trades further fuel the steep price moves that caused the unfavorable situation, so the positive feedback loop leads to parabolic price rises.

It happens very rarely, but I think it is good to know about it when you look at an All Time or close to All Time extreme situation, where you are thinking of a big trend reversal… it not always happens!

I’m attaching the cotton example here, but on a longer, five years chart. I have indicated with a red line the place, where there was a very large COT extreme case, Commercials were at roughly 70000 contracts short, so at the time one could have thought that it’s a good short opportunity… Well it turned out that it was one of these cases and prices just skyrocketed from there.

 

[Lord Flasheart]

Hi Dunstan

I really appreciate the efforts you have put in on this thread to explain the cot and how it works. I did spend time looking at this a while ago and came to the conclusion I couldnt get an edge when it came to live trading. You still have to find an entry point, place a stop and manage the trade. Do you feel you have an edge with this. i would absolutely love to see some live calls using this method on my live call thread.

 

[Dunstan]

Hi Lord Flasheart,

Thank you for your post!

I believe that COT analysis on its own is not enough. I think it can be used in two ways: one way as a signaling tool, the other way as a confirmation tool, but in both cases you should have a solid system for your trading, a system that can help you enter and exit trades.

In my thread I do not wish to go in to any specific system recommendations... I would be narrowing down the usage of it (COT analysis) to one type of time frame and tactic, which could leave out other great trades on different time basis and different strategies. What I mean by this, is that there are traders out there, who might be trading on shorter time frame, for example only on forex or a trader who prefers options on metal markets and on a longer time frame (from few weeks up to a couple of months) and they will be viewing the specific “formula” from different angles.

A lot of traders out there still do not have an idea, or might not even heard about Commitments of Traders Report. My goal is to introduce them to it and teach them the basis of COT analysis. After that it is the challenge of each viewer of my thread to do his or her historical analysis and back test their system with the integrated COT report.

What I do believe is this: Using COT analysis integrated in your tested system can filter out some bad trades or it may focus your attention to trading opportunities that your existing system might not have found on its own.

I think of COT analysis as a “car-part” --> It is like a GPS navigation system, or the windshield etc… Like let’s say the MACD histograms or bar charts or EMA-s are wheels, door knobs etc… I would say that a car on its self cannot get from A to B with only the wheels or only the engine. But a good combination of these elements can make a good car and that will deffinitely get you from A to B.

 

[Martinghoul]

Very sound approach you got there, Dunstan...

 

[Lord Flasheart]

sounds like a better filter than an ma etc,good luck

 

[Dunstan]

Thanks!

 

[DionysusToast]

Out of interest - what is COT saying about corn prices right now?

 

[Dunstan]

Hi Dionysus Toast,

I have attached a chart on Corn, showing you the latest COT report. Small Speculators are the ones showing anything interesting: They are at 191 reports extreme and the COT Index – set on a 5 years range – shows 91%. All this is sort of a bearish signal, but it would be nicer, if Commercials and Large Speculators were also in such extreme territories. I don’t think that this signal from small speculators has that significant effect on prices on this market at least that’s what I can see now looking at similar situations in the past.

What also bothers me, when thinking of a short opportunity is that the volume and open interest score is showing me +18 out of the possible 20, which is an extremely bullish signal. (for more info on volume and open interest analysis: this page I found has great info)

I would be standing aside on this market and wait for a large sell signal from Commercials ( > 20-25% change on a 52w range) and a COT index closer to 90% before going short... OR I would stay long and follow the LS!

Dunstan

 

[Dunstan]

Hi everyone,

I figured that now that I have more or less talked about all of my COT analysis tools I use, I should start something else.

I’m still open to any questions regarding this topic, so please don’t hesitate to ask!

There is a so called “Weekly Commitments of Traders Review” that is published every week on YouTube and gives a sneak peak on the most active markets – regarding the COT report. I thought that I could pick some of the markets mentioned in these reports and give you my own thoughts about them. How does that sound?

The most recent report can be viewed here.

2-year Note

There was a -39% change in the Commercials positions, they changed their net short positions from -100.000 contracts to more than 210.000 contracts short. The attached 1-yr chart shows that there was one similarly large change in the past one year which resulted in a price-decline in a few days.

The other interesting thing to see is that the COT picture is pretty extreme, Small Speculators COT Index shows 99%, while the Commercials COT Index shows 1%.

All this looks pretty bearish to me, and as the report said, it could be a good risk/reward trade, because there are some close stop levels not far.

If you don’t feel comfortable to trade futures, don’t forget that these days there are other great instruments as well --> ETFs. This page I found has a list of them. You can trade them like stocks!

All the best,
Dunstan

 

[DionysusToast]

Hi Dionysus Toast,

I have attached a chart on Corn, showing you the latest COT report. Small Speculators are the ones showing anything interesting: They are at 191 reports extreme and the COT Index – set on a 5 years range – shows 91%. All this is sort of a bearish signal, but it would be nicer, if Commercials and Large Speculators were also in such extreme territories. I don’t think that this signal from small speculators has that significant effect on prices on this market at least that’s what I can see now looking at similar situations in the past.

What also bothers me, when thinking of a short opportunity is that the volume and open interest score is showing me +18 out of the possible 20, which is an extremely bullish signal. (for more info on volume and open interest analysis: this page I found has great info)

I would be standing aside on this market and wait for a large sell signal from Commercials ( > 20-25% change on a 52w range) and a COT index closer to 90% before going short... OR I would stay long and follow the LS!

Dunstan

Fair enough - the crops have taken a beating and it's interesting that you came to the conclusion you did without mentioning that because it's the same one you'd come to if you were watching the news on the crop.

On a different topic - how does this work differently (if at all) when the market is a real commodity - oil, coffee, corn etc verus a purely financial product such as an index future? Is it the same game or different?

 

[Dunstan]

Hi Dionysus Toast,

Each and every market has its own characteristic, so if you suspect that the COT analysis can have different results on an index future than on a grain future for example, you are absolutely right.

To give you a good example, here is Live Cattle. The usual picture, when Small Speculators have a unique chart does not stand here. If you look at the chart I’ve attached, you can see that they have a pretty significant correlation with Commercials. This is so, because a lot of Small Speculators on this market are actually Commercial participants, just they don’t reach the reporting limits that CFTC determines. You have to be careful how you read the signals from Small Speculators here.

I think once you get to know better the participants on the different markets – by doing a historical analysis – you will understand how to interpret the signals on them.

Of course a large change in the COT data or an extreme COT picture is always something that can contain a good trading opportunity, but you have to examine them with regard to the market that produced the signal, check and see, weather similar pictures in the past have had any effect on prices or not.

All the best,
Dunstan

 

[Dunstan]

Hi everyone,

The next market that has been mentioned in this „COT review” was the Feeder Cattle, because the second largest change in Commercials positions happened here.

Not only was the change size significant, but if you look at the chart you can see that the whole COT picture is pretty extreme.

I have indicated 4 places on the price chart which coincide with extremes in the COT.

I would like to draw your attention here to the fact that on this market Small Speculators should be considered differently, because a lot of them are actually Commercial players, they just don’t reach CFTC’s reporting limits.

If you don’t feel comfortable to trade futures, don’t forget that these days there are other great instruments as well --> ETFs. This page I found has a list of them. You can trade them like stocks!

Have a nice day,
Dunstan

 

[Dunstan]

The most recent COT report, the 30th report is out:

COT review

I’ll give you my view on this report in the following days, meanwhile check it out and if you have any questions, let me know!

Have a nice day,
Dunstan