Understanding the COT
Even though the reports are released Friday afternoon, the positions are only current as of the close on Tuesday. Nonetheless, that is the most current snapshot you can get of the professional traders positions and it is still very useful. Commercials are considered to be hedgers. They are physically involved in buying or selling the commodity or future for their business needs. Large speculators are considered professional traders and many of them are hedge funds, CTAs and CPOs. Small speculators are normally considered the small retail trader, but they also include small hedgers who are below the reportable limits.
Common Trading Myths of the COT Reports
Fade the Small Speculator: This may be the most common way that commodity traders use the COT reports. It is generally understood that the small traders are usually wrong and 80 to 90 percent of them lose money trading commodities. However, in the COT reports, you are not able to differentiate the small retail traders. The non-reportable category also includes small hedgers intermingled with small speculators. It is almost impossible to find any reliable trading patterns from this approach.
How to Trade with the COT
For trading purposes, you want to focus on the commercials and large speculators. Throw out the non-reportable category – small speculators. Opportunities exist when either group switches from net long to net short after a prolonged trend.
The main rule that Steve Briese relies on for trading is to compare the current numbers with a range over the last couple years. This will give you an idea of how much ammunition the professionals have used or have remaining. It may seem bullish to look at a net long figure of 100,000, but it might not be so bullish if you compare that to the high of 400,000 a couple months ago.
I really liked the way the author explained the COT index and how to use the indicator for buying and selling opportunities. Basically, it helps you find buying opportunities on dips in an uptrend and sell opportunities in a downtrend. I have yet to test it myself, but it looks like something I may want to incorporate into my trading.
Exceptional Book on COT Reports
This book was released in early 2008, so it contains a lot of discussion of the supplemental reports to account for the influx of commodity index funds. I’m sure the research contained in this book will give you a better understanding of how the commodity markets work it will likely give you some ideas to incorporate into your trading.