Every week, the Commodities Future Trading Commission (CFTC) issues a Commitment of Traders (COT) report. Basically, it’s a summary of the positions held by large futures trading institutions.
It covers all assets, but forex traders are interested in the currencies section. All large traders (who move the market) are required to report their positions regularly.
Evidently, because the report only comes out once a week, it’s not so useful for day traders. But for longer-term traders, it can give some insight into where the market is heading.
Regularly following the report shows how much market makers hold in long and short positions of different currency pairs.
That helps draw a picture of where supply and demand are, and therefore where price action is likely to go.
The Components of the COT Report
The report itself is fairly complex. However, as a brief overview, we can divide it into different sections.
The ones relevant to traders are the Non-Commercial and Commercial headings.
Commercial headings account for big, multinational corporations who participate in the forex market to cover their exports and limit their exposure to currency fluctuations.
Often, real-world demand factors drive their trading, such as Sony factoring in how many PlayStations they will sell.
Non-commercial headings are the major hedge funds, and other big market speculators, including banks trading on behalf of big clients.
Often, market expectations drive their trading. For example, buying ahead of an expected move higher in a particular asset.
There is a third category of “nonreportable persons” who are smaller traders who don’t have enough holdings to really move the market, so we don’t pay much attention to them.
How this Works into Trading
The market moves on the basis of large traders, the “market makers”.
We don’t know exactly what trades they are making, but the CFTC’s COT report is a summary of their positions ahead of the weekend.
So, for example, if we see in the USDJPY report that non-commercial shorts have increased, it means a majority of market makers are positioning themselves to make money on the currency pair going down.
We can’t just jump into the market on this basis alone. That would be too easy.
Plus, everyone would already be doing it.
What we need to do is analyze the information in the report in the context of other indicators and confirm it in the charts.
Breaking the Pattern
In general, we’re looking for discrepancies between the different elements of the report and the markets.
If a currency pair has been trending higher over the last several months, we can suspect the trend will reach exhaustion soon.
If on top of that we see each week major traders are unloading their long positions and building up their short positions, it might be getting near time to take a short position as well.