This is a report published weekly by the US Commodity Futures Trading Commission (CFTC). Big market players are required to submit reports of their contracts positions in the futures market. It’s published every Friday and is composed of data that is submitted to the CFTC on Tuesday. The goal of this report is to provide transparency to the futures market and prevent price manipulation.

 

The markets move by the amount of supply vs demand of institutions and this report gives us a sneak-peek into the intentions of these institutions in the sense of what they have just been doing or are currently doing and may continue to be doing for a while, enabling us to trade with smart money. Understanding this data prepares us for potential reversals and continuations as well as major price moves and better positions us to take advantage of them.

 

Despite the fundamentals that move the market, this is the real deal that gives you the edge you need in the markets. These smart money traders know better than mere fundamentals. What fundamentals do is to create volatility in the market but the smart money guys already know ahead of time certain likely outcomes and take positions much earlier before actual fundamental event releases

 

As a trader, the COT report is a very useful resource in your trading arsenal as a great analytical tool regardless of the market you trade as it provides up-to-date information about market trend and the strength of the commitment big market-moving traders have towards that trend in each of the commodities markets. As such, it is an important sentiment analysis tool that should be used in conjunction with other forms of analysis to inform trading decisions.

 

 

Everyone can access this report and get the data. Once you find the report, you can then pick the particular data you want concerning futures or currencies and tabulate them for your easy analysis. For example, below is a table with COT data on the US dollar that ive been tabulating for the first half of 2021.

 

 

Having the data however doesn’t help in itself, you have to know how to read, understand and interpret it. COT reports are used by many speculative traders to help making decisions on whether to take a long or short position.

 

How To Find The COT Report

Enter the address below in your browser;

https://www.cftc.gov/MarketReports/CommitmentsofTraders/index.htm

This will open up the following page

 

 

Scroll down the page to the “Current Legacy Reports” table. In the “Futures Only” category, click on the ‘short format’ column in the “Chicago Mercantile Exchange” row.

 

 

The report as one below will appear. That’s the COT report. You can then lookup data for any currency you desire

 

 

How To Read The COT Data

Once you have the report above, it’s time to extract the data needed for trading. You’ll notice there are three columns representing the three types of market participants each having their own interest for their participation in the futures market – NON-COMMERCIAL, COMMERCIAL, and NON-REPORTABLE TRADERS.

 

Non-Commercial

These are traders that work for large institutions who are speculating on the market to make money with their decisions to either go long or short on a futures contract. Non-commercials are basically large institutional investors, individual investors, hedge funds and large financial institutions that are trading in the futures market for investment and growth. They have no business activities related to a particular commodity in which they might have a position. Their sole motive is profit. Yes they trade it, but have no direct business interest in it. Their position in the market – buy (long) or sell (short) is purely speculative intended for profit from price moves.

 

Commercial Traders

These trade on behalf of enterprises or institutions. They manage business risks, identify opportunities and help level down fluctuations in the underlying commodity to stabilise or increase revenues for the institution. These institutions are involved in trades whose nature of payments may be affected by inflation, currency depreciations, and devaluations.

 

For example, company ‘A’ is to be paid in the future in a particular kind of currency but such currency’s value has been depreciating and the downward trajectory is expected to continue through the time the payment comes.

 

This would mean loss to company ‘A’ through the currency depreciation as one currency note say worth ten dollars today may be worth five dollars tomorrow through the currency loss of value. To counter this, the trader for company ‘A’ needs to hedge against such depreciation. And to do so, he will place a position in the futures market to primarily hedge their business activities. He uses the futures market to offset risk in the cash or spot market. This way the price fluctuation will not affect the company.

 

Non-Reportable Traders

These are individuals, proprietary trading firms, small hedge funds, and anyone who establishes small position sizes for speculative purposes. They are small speculators, the least of the three participants in the futures market.

 

As retail Forex traders, the ‘commercial traders’ data is of less interest to us as their positions are mainly protective of their profits already realised from a product traded and not speculative for profit.

 

Our main focus is on the ‘non-commercial’ traders’ data. Why? Because these are in for the profit like we are. They are purchasing financial instruments with the expectation that it will become more valuable or profitable in the near future. They have no need for the foreign currency but they are trading it for future profits. They buy when they determine the price to be low with the hope that its value will increase so they can sell it at a higher value for a profit.

 

The commercial traders are interested in price stabilisation while large speculators (the non-commercials) are looking to profit from large price fluctuations that commercial traders are avoiding. These two have a clear distinction the motive for their participation in the market.

 

Their transactions are purely speculative as no one can tell for sure whether the market will go up or down. And since their positions involve big positions given their enormous trading capital bases at their disposal, they are big enough to move the markets either up or down. Knowing what they’re doing by understanding the COT data reports exposes their bias and reveals to us what kind of positions they have taken in the market whether shorts or longs.

 

As speculative traders or retailers we can base on such data to determine what direction smart money is flowing and what trend prices are moving.

 

 

I’ll remind you that this data is the positioning of the big banks and institutions and speculators in the market. It helps reveal how their orders – both shorts and longs are changing overtime. Understanding how to read and interpret this data together with technical and fundamental analysis will give you an advantage over the crowd of traders in the market. It will definitely give you a trading edge simply because you are able to place orders in the direction of the institutional investors thereby trading with smart money.

 

Institutional order flow is what moves the markets and definitely placing orders in the direction of the institutional order flow gives you an edge. Water flows in the path of least resistance, and this same principal applies to prices to the market. You can use it to help predict price moves

 

When looking at the COT data, focus on the net positions. These are a result of long positions minus short positions. Remember, some of the biggest speculators whose positions in the market this data shows, practice hedging. This means taking two positions on the same instrument in different directions with one protecting the other against unexpected price movements.

 

This is important to know when reading COT data as it helps you understand that much as institutions are buying by placing long positions, they are also selling by placing short positions as a hedge to their longs. That’s why you see both additions of both longs and shorts sometimes. You only need to read through the additions to see how the positions are changing whether positively or negatively.

 

When the net position indicates a negative figure that is progressively shifting from the negative to the positive, it indicates a reduction in the shorts and an increase in the longs. This means the currency whose data in the report you’re reading is increasing in strength.

 

When trading a currency pair, you could look up the net positions on both the base and alternate currency to see how the net positions are changing in both currencies as reported in the COT data

 

You also need to look at the technical aspect of prices as well as the structure of market. If you see institutions adding longs and closing shorts during a retracement to the downside, expect a continuation to the upside. You may wonder how to know when positions are being added:

 

1 – A positive figure in either the Long or Short column of the COT report is a representation of the number of either long positions or short positions added in the market that particular week.

 

2 – Whereas a negative figure in either column shows the number of positions either long or short closed from the market that particular week. The closing of these  positions means they are taking profits on those particular positions while the addition of positions means they’re opening new positions in the market.

 

3 – A negative figure in the Long column with a positive figure in the Short column shows that institutions were previously long but for whatever reasons (like change of trend bullish trend to bearish or reversal of price), they took their profits on the long positions by closing them out and instead opened new short positions to capture the retracement or price correction.

 

4 – An increasing net position indicates that either more longs are being added to the market than shorts or Long positions are being opened and short positions are being closed. It shows that the currency is getting stronger. A reducing net position shows the exact opposite.

 

If for example you’re trading the GBPUSD, and the COT data on the GBP shows increasing net positions while the COT data on the USD shows reducing net positions, it means that institutions are adding more longs and closing their shorts on the GBP while closing their longs and adding more shorts on the USD. In other words, they’re longing the GBP and shorting the USD. Remember currencies are traded in pairs, the base against the alternate. In the GBP pair, the GBP is the base while the USD is the alternate. If the COT data shows increasing GBP net positions and reducing USD net positions, it could only mean that the GBP is stronger than the USD. In such a case, it only makes sense to buy the stronger currency while selling the weaker one. That’s how you use the COT data to your advantage.

 

However, like I earlier said, you can’t use such data independently and be profitable. You have to combine it with the technical aspects of the market, the market structure, and the fundamentals to develop a strategy that’s combines the technical, structural, fundamental, sentimental, and the order-flow perspectives of the market that enables you to trade in the direction of smart money.

 

When checking the net positions in the market, you also have to check the long and short columns to be sure of the cause for the changing net positions. Is one increasing and the other reducing? Are they both increasing at different rates? Are they both reducing but at different rates? All these are questions that have to be answered before comprehensively understanding and accurately interpreting the net positions.

 

If during a bullish trend there’s a retracement with prices moving downwards and institutions are adding longs, then the retracement is just a correction before a continuation of the trend. You can treat it as a temporary reversal with a continuation coming to keep the bullish trend intact.

 

On the flip side, if during a bearish retracement in a bullish trend institutions are not closing any shorts but are instead actively adding some, then it’s likely not just a retracement or temporary reversal but a permanent one. It might be a change of trends. Watch how it reacts to the market structure, whether it holds or its broken to the downside. It could be the end of the bullish trend and the beginning of a bearish one.

 

If, however, the change in the long and the short positions is the same (an identical figure or closely similar), it means there’s no change in the bias. The institutions just exited their positions in the market both longs and shorts. The fact that these include hedge funds who hedge their positions with both longs and shorts taken at the same time, it could be that they were closing both their positions out of the market.

 

For example, if you took a long position but price was unstable and a way of protecting your earlier position you hedged it with a short, when exiting the long it might have to exit the short hedge as well. This becomes inconsequential to the market as it favoured neither longs nor shorts

 

If during an uptrend longs are being closed and shorts are just constant, in other words while longs are being reduced insignificant minimal number of shorts are opened or closed meaning the change in longs being high in the negative while the change in shorts is close to non, it brings about a period of consolidation. The deceleration in the movement of prices northwards creates a distribution phase in the market that will likely end in the reversal of the trend from an up to a down trend. Institutions are most likely closing their longs preparing to take their shorts that will likely drive the trend south

 

On the other hand, during a downtrend, if many shorts are being closed (meaning the change in short positions is reading high negative figure) and there are no longs being added (meaning the change in long is either insignificant being minimally low or none at all), it creates the accumulation phase in the market where you can expect a reversal of trend. Institutions are just likely closing their shorts in preparation to take longs.

 

 

Godfrey Kakulu

Your Forex Trading Coach and Mentor

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