INSIDER TRADING INFORMATION: COMMITMENTS OF TRADERS REPORT

INSIDER TRADING INFORMATION: COMMITMENTS
OF TRADERS REPORT
There is one more piece of information that spot forex currency traders can
“borrow” from the futures industry; it is the Weekly Commodity Futures
Trading Commission’s Commitments of Traders report. The primary purpose
for this report is to monitor trading activity and to have a tight surveillance
program in order to identify situations that might pose a threat of
a market or price manipulation and, therefore, allow traders to take appropriate
action.
The CFTC market surveillance staff closely monitors trading activity in
the futures markets in order to detect and prevent instances of potential
price manipulation. Some consider this “insider trading” information because
every week we get to take a look at which investor group is taking
which side of a trade. There are many studies and books written on the subject.
(Larry Williams was a pioneer on the subject. Also, it was covered in
my first book A Complete Guide to Technical Trading Tactics (Wiley,
2004), on pages 162–165.) As a veteran trader for over 26 years, I have used
this information to capture many significant moves in the markets. In the
sample shown in the table in Figure 1.17, there are several categories. The
first is the Non-commercial, which lists all large professional traders or entities,
such as hedge funds, commodity trading advisers, commodity pool
operators, and locals on and off the exchange floors. It includes any trading
entity that hits a reportable position limit; for instance, in the CME, in 2006,
the limit for currencies was 400 contracts.
The next category of importance is the Commercials, which includes
banks and institutions or multinational conglomerate corporations looking
to hedge a cash position. The long and short open interest shown as
Nonreportable positions is derived by subtracting total long and short
reportable positions from the total open interest. Accordingly, for Nonreportable
Positions, the number of traders involved and the Commercial/
Non-commercial classification of each trader are unknown. This balance of
positions is assumed to be the small speculators. If you look at the first column
under Non-commercials, you see the breakdown of how many long po-
60 FOREX CONQUERED
sitions versus short positions are held. The next line shows the changes
from the prior week; this is important information because you will be able
to see if these guys unloaded some of their positions or added to them from
one week to the next. The line under that tells you what percentage of long
and shorts is held, and the last line shows how many traders control longs
or shorts. The information is gathered as of the close of business every
Tuesday by each of the clearing brokerage firms and is turned over to exchange
officials, who then report the information over to the regulatory
body know as the CFTC. This information is released on Friday afternoons
at 3:30 P.M. (EST). Before acting on a decision based on this information, it
is critical to know if there was a major price swing from Tuesday’s close to
the time the information was released because positions may have changed
hands.
CAN YOU MAKE MONEY FROM THIS INFORMATION?
There is always a chance to make money; the key is to be able to afford not
to be too heavily leveraged if the market moves further than anticipated.
This report is like an insider information report. It acts like a true consensus
of who literally “owns” the market. A forex trader can use this data to
determine if market participants are too heavily positioned on one side of
the market in a long-term trend run. It is generally the small speculator
who is left holding the bag. I mean, let’s face it, money moves the market;
The Business of Trading Money 61
FIGURE 1.17 CFTC Commitments of Traders Report—CME (futures only)
and the banks and large professional traders are a bit savvier when it comes
to their business. After all, one would think a bank has a good idea of
the direction interest rates are going to go in once a central bank meeting
occurs, right?
Suppose the small speculators are showing a nice short position of, say,
at least two longs for every one short. If the Non-commercials are net long
and the Commercials are net long, chances are that the small speculators
will be wrong. I am looking for imbalances in markets that have been in a
trending market condition for quite some time, and therefore I can develop
a game plan and start looking for timing clues to enter trades accordingly.
Keep in mind that the Commercials can and sometimes are not right; they
are not in the market to time market turns. They are hedging their risk exposure
in a cash position. Therefore, the Non-commercials, or professional
speculators, in the short term are considered the smart money. Here are
some general guidelines to follow:
• If Non-commercials are net long, Commercials are net long, and the
Nonreportable Positions category is net short by at least a two-to-one
margin, look at buying opportunities. In other words, go with the pros.
• If Non-commercials are net short, Commercials are net short, and the
Nonreportable Positions are net long by at least a two-to-one margin,
look at selling opportunities.
• If Non-commercials are net long, Commercials are net short, and Nonreportable
Positions are neutral, meaning not heavily net long or short,
look at buying opportunities. Stick with the smart money, the bank and
institutions category.
Let’s put the theories to the test combining volume with the Commitments
of Traders data by studying the chart in Figure 1.18. This is the
British pound futures contract; the chart pattern resembles a rounding bottom
or an inverted head-and-shoulders formation (both of which we will
cover in the following chapters). The CFTC report was released on the
close of business on April 14, 2006. With the information at hand, we can
determine that the Commercials (banks and institutions) were net long the
market, the large speculative Non-commercials were net short, and the
Nonreportable small speculators were net long. Granted, these are not
heavily weighed numbers—we don’t see a tremendous imbalance like a
two-to-one ratio of net shorts versus net long in the small speculator category—
but we do see a two-thirds grouping of net longs led by the Commercials
and the Nonreportable small speculators. The Non-commercials
are the only ones net short and needing to buy back their shorts. If we integrate
our newfound knowledge of using volume studies, we can determine
that prices are rising with an increase in volume. This signals a
62 FOREX CONQUERED
healthy market condition for the bulls. It signals that buyers are entering
the market, not just a small short covering rally. In early May, we see a
small consolidation pattern called an ascending triangle form; and as prices
break out to the upside, the volume levels are increasing as well, indicating
continued strength and a strong bullish trend.
Now let’s look at the spot forex market as shown in Figure 1.19. Examining
the low in April, a candle shows a hammer pattern that formed in
both the spot forex and the futures markets. Then, taking the information
from the CFTC COT report released on that Friday, we know Commercials
were net long. In addition, we see the increase in volume, as shown in the
futures chart in Figure 1.16. This helped clearly identify that higher prices
were accompanied with rising volume. This is a very healthy sign that a
major price move could be underway. Here is an example of where digesting
the information on volume with COT data could help you make the decision
to diversify your trading approach with a long-term position. From
what we have covered in this chapter, you could go long an outright spot
forext British pound or could enter in a mini-lot position. You could use a
futures option strategy or could invest in the British pound ETF (FXB).
Several techniques that we will go over in this book are trend-line breakouts
from wedge patterns and the Defcon III trading signals that alert to
long entry as indicated with the little triangles shown in Figure 1.19. The
The Business of Trading Money 63
FIGURE 1.18 British pound (daily bars)
Used with permission of GenesisFT.com.
factual data revealed in the CFTC COT report is tremendously important information;
and, best of all, it is easy to access and free.
IMPORTANT WEB SITE INFORMATION
To access the CFTC COT reports, go to this link:
http://www.nationalfutures.com/CFTC_Reports.htm