The Power of The C.O.T. Index
The search for the Holy Grail of financial and commodity markets is about as old as the markets themselves. A journey that has caused many to throw their hands up in vein and swear the markets off forever. Obviously a double damage action to the investor with their frustration towards technical analysis and many times an avoidance of the greatest playing field for excellent long term returns.
While I can sympathize with their frustration of their search for the Holy Grail, I simply remain reserved to the fact that their simply is no holy grail and the search thereof is futile.
This fact of no neat little market predicting package should not dissuade anybody from continuing their education about markets both on the fundamental and technical side. Quite the contrary, it should become a motivating factor towards the direction of finding something so close to a Holy Grail that its power would be close to the same.
Here lies an index that has close to this power and with some fine tuning can many times seem to almost know the future. I am talking about the C.O.T. index and for those of you who are unfamiliar with what the Commitment of Traders Report (C.O.T.) is, I will give you a very brief overview and then get right into the nuts and bolts of the C.O.T. index.
The Commitment of Traders Data is compiled by a branch of the government known as the C.F.T.C. , The Commodity Futures Trading Commission. The responsibility of this commission is to gather and publish the open futures positions on all publicly traded U.S. futures contracts as well as the corresponding options.
This data is published on a weekly basis and released to the public every Friday at 3 p.m. EST.
The data is broken down into three categories, each with their own unique qualities.
Commercial Traders – These are the Big Boys, the Smart Money and the main traders we are going to listen to and follow. These traders consist of representatives of companies that actually use the commodity that is being traded. Companies such as Kellogg’s in the Wheat, Corn and Oats market or Nestle in the Cocoa and Sugar market. These are the traders that are completely in the know about their respective markets. These traders are in on the supply and demand of their markets and while their main function is to hedge the price of the commodity they deal in.
Large Speculators – These are commodity fund traders and mainly are trend followers. What you will notice most about this group of traders is that as a commodity rallies or declines their positions will move in tandem with the price. What we are looking at with this group is an extreme either on the long side or the short side and especially when the Commercial Traders take the opposite position.
Small Speculators – Here are the regular speculators like you and I. Typically this group of traders is dead wrong at major tops and bottoms and once again we want to see the Commercial Traders on the opposite side of the market.
Now here is where we separate the traders who utilize this data correctly and are able to get an excellent picture of the long term state of a market and those who may use the data, but do not get the fullest of its potential.
The key now is to get the net position of each group of traders by simply subtracting the long positions from the short positions that are given each week in the C.O.T. report.
For example, let us say that the commercial traders have 78,000 contracts long soybeans and 22,000 contracts short soybeans. The net position in this case would be +56,000 long. This would be considered bullish would it not? It all depends upon the historical averages that are indicative to each commodity group, but that is a subject for a complete other discussion.
So we have all the data calculated that gives us the weekly net positions of the commercial traders, large traders and small speculators. The next step is to plot these numbers on a graph. The more data the better with a minimum of 5 years of data.
Here comes the reason you have been reading this entire communication. The construction of the C.O.T. index is nothing more than putting this weeks net position into a format that will tell you where the current number is in relation to past numbers over the last 3 years, or maybe 4 years, I will let you experiment with what time frames work best for what commodities. The point is, if the net position is the highest it has been over the 3 year period then the C.O.T. index is 100 and if it is the lowest, then it is 0. Any variation between the two will constitute its respective relation. Not overly hard, by any stretch of the imagination.
Let me make this process even easier for you. You can simply go to
http://www.timingcharts.com and voila, you have all the data calculated for you. You can try all different time frames and even change up the data going into the formula. This is a very powerful tool that if used correctly will offer up to you about as close to the Holy Grail as you are going to get.
The key from this point is to fine tune your C.O.T. index to the proper time frame for comparison of the net positions and also to use the 2nd window to work on supplemental models.
I am not going to give you all of the answers here, you are going to have to do some investigative and analytical work for yourself it will really help you get a good feel for the market you are studying.
While there will be more to follow on this subject as it holds not only much potential, but also a slue of off shoot models.
This however should get you started down the road to getting a great handle on the markets.
Wishing you the best of luck!