- CRB Yearbook CD - Analyzing the Commitments of Traders Report

Every clearing member, futures clearing merchant, and foreign broker is required to report daily to the U.S. Commodity Futures Trading Commission (CFTC), the futures and futures options positions of any trader that exceeds a specified minimum reporting level. The reporting level on Treasury Bond Futures, for example, was 500 futures contracts at the beginning of 1996. The CFTC then classifies these reporting traders as either Commercial or Non-Commercial. The Commercial users are more commonly referred to as the Large Hedgers and the Non-Commercials as the Large Speculators. Since the total number of open futures contracts is known, a simple subtraction of these reportable positions yields the number (in contracts) of Non-Reportable futures positions. Analysts refer to this category as the Small Trader. Bi-weekly, the CFTC releases the Commitments of Traders Report which details the long and short positions of each of the three categories. This report has long been an important quasi-technical tool for futures traders and has been referred to as "an elaboration of open interest". Use of the Commitments Report in price forecasting has been chronicled in prior CRB Commodity Yearbooks, most recently in 1985 and 1990. Readers are encouraged to study the earlier practical examples.

Figure 1: Futures Only Report

A sample page of the Commitments Report for Crude Oil is shown in Figure 1. The pertinent facts from the reports are summarized in tabular format as a regular feature of CRB's FUTURES PERSPECTIVE weekly chart service. A sample of this report can be seen in Figure 2. The CFTC makes the report available on it's INTERNET site at http://www.cftc.gov.

Figure 2: Futures and Options Report As Shown In CRB Futures Perspective

Theory

The general theory behind the application of the Commitments Report report has not changed. The Large Hedgers are expected to possess the best fundamental long term market knowledge—and eventually be the best forecasters of future price movement. Years ago, the Large Speculator was also deemed to be the "smart money"—possessing insights not available to the Small Trader. But now this category is increasingly dominated by the trend following funds that control reportable positions. A simple method of investigating this new factor utilizes the mathematical trend direction as reported weekly as the Electronic Futures Trend Analyzer (EFTA) in CRB FUTURES PERSPECTIVE. This purely mechanical determination of price trend direction can be compared to the net long or short position of the Large Speculators (assumed now to be trend followers) in the Commitments Report. The Small Trader is still regarded as:

1. Lacking a trading plan
2. Undercapitalized
3. Tends to run "en-masse"

Thus, this class of trader remains the least desirable contingent to mimic. Since the last look at this report in the 1990 yearbook, the CFTC has increased the frequency of the report from once a month to bi-weekly, and introduced a new report which adds options as futures-equivalent positions. This Futures + Options Commitments report "delta adjusts" the options positions of the reportable traders. It should yield a more accurate overall picture of the market make up. Figure 1 is the January 2, 1996 Futures Only Report; figure 2 contains percentage data from a combined Futures + Options Report. This article will review the traditional method of analyzing the Commitments of Traders Report and suggest a slightly different approach.

The important key to successful analysis of the Commitments Report is the knowledge of the seasonally normal positions of each of the three categories. Commodity Research Bureau has once again updated, in chart format, the historic normal positions (in futures only, not combined) for the ten year period ending in late 1995. Ken Shaleen has added a general observation of the most obvious idiosyncracy on each of the graphs.

Traditional Approach

The "traditional" method of analyzing the CFTC's Commitments of Traders Report is to:

1. Examine a futures price chart for:
   1. Any unusual changes in total open interest, especially upward.
   2. Ascertain the direction of the price trend using conventional trendline analysis.
2. Refer to the current Commitments Report to delineate the positions of the three categories of traders. This answers the question of who has been correct in their market judgement. It also reveals who has been wrong--a provided "fuel" for the price move.
3. Compare the current positions to the normal historic positions of each category at that date. Prior analytical work by the Commodity Research Bureau states:
   1. If any of the current positions differ more than 5% from the historic norm—a definite directional bias exists.
   2. Deviations of less than 5% should be disregarded.
   3. Deviations of greater than 40% from normal indicate an unusual situation. This is a caution flag and traders should be "wary."
4. Make the assumptions that:
   1. The Large Hedgers are the "smartest" money.
   2. The Small Traders have the worst track record.
   3. The Large Speculators used to be "smarter"; now this category is becoming dominated by trend following funds.
5. The most distinct conclusions:
   1. Bullish: Large Hedgers are more heavily net long than usual, Large Speculators are clearly net long, and the Small Trader is net short more than normal.
   2. Bearish: Large Hedgers are more heavily net short than usual, Large Speculators are clearly net short, and the Small Trader is net long more than normal.

A slightly different approach to analyzing the Commitments Report will be investigated. Instead of beginning with an actual futures price chart--each of the historic ten-year average commitments graphs is analyzed first. A determination is made of what constitutes the most obvious feature of`the seasonally normal commitments chart at that specific date. Then the make-up of the three categories from the comparable current Commitments Report is noted. If the two are materially different it implies a strong directional belief on the part of the participants.January 1996 Example The first look at the strategic positions of the three categories in 1996 was available with the January 2, 1996, Commitments Report, released Monday January 8, 1996. The expected (normal) situation on 20 historic average charts at the beginning of each calendar year was compared to the actual make-up on January 2, 1996. Particular attention was focused on the current position of the Large Hedger versus their normal stance. Four of the 20 futures markets examined had pronounced differences with respect to both sign (long or short) and magnitude (greater than 5% deviation). These were T-Bonds, Crude Oil, Cotton, and Coffee. An example of the Commitments Report for Crude Oil is shown in Figure 1. The historic normal graph for Crude Oil is in Figure 3.

Figure 3: Seasonally Normal Graph

The situation of the four commodities under investigation:

1. Treasury Bonds:
   Expectation = Large Hedgers net long 2.3%.
   Actual situation = Large Hedgers net short 9.1%.
   Forecast = Bearish
2. Crude Oil:
   Expectation = Large Hedgers net long 3.3%.
   Actual situation = Large Hedgers net short 4.0%.
   Forecast = Bearish
3. Cotton:
   Expectation = Large Hedgers net short 15.0%.
   Actual situation = Large Hedgers net long 14.1%.
   Forecast = Bullish
4. Coffee:
   Expectation = Large Hedgers net short 20.3%.
   Actual situation = Large Hedgers net long 8.8%.
   Forecast = Bullish

In the four situations isolated, the Large Hedgers in T-Bonds and Crude Oil were definitely inclined to hold net short futures positions on January 2, 1996. The Cotton and Coffee Large Hedgers were holding net long futures. In the previous ten years, on average, these four Large Hedgers were facing exactly the opposite direction—and by considerably more than a five percent swing—but less than 40 percent.

The remaining 16 historic normal charts vs. actual situations examined did not show a difference in sign from what was expected of the Large Hedgers. The grain and oilseed commitments did show a more bullish (than the normal bullish) bias on the part of both speculative categories.

The Large Hedgers are not always immediately correct in their market view. But if prices do start moving in their direction, the other side, the Small Trader, will begin to panic. The Large Speculator will receive a trend change signal and attempt to move to the sidelines. This environment creates the potential for an "air-pocket" in futures price movement against the positions of the Small Trader.

Adding Options

With the advent of the Combined Commitments of Traders Report in May of 1995, an analyst will want to make sure that the addition of futures equivalent options positions does not alter the bias of each category enough to negate theforecasting implications. This Combined Commitments Report is released the day after the Futures Only report. In the January 2, 1996 case study, the addition of options did not change the long/short classification of any category of any of the four situations understudy, with one minor exception, T-Bonds. A detailed observation of the T-Bond Reports is shown in Figure 4. A positive sign equals net long, a negative sign equals net short.

Figure 4: Comparison of the two Commitments Reports for January 2, 1996

The comparison of the futures only positions to futures + options shows that the Small Trader is now net long five percent. These traders are taking a bullish view via positive delta, options positions. These could be short T-Bond put options. But a much more likely scenario is that the small trader is long T-Bond calls. This bullish bias on the part of the Small Trader increases the bearish forecast of the Commitments Report.

Technical Analysis

Technically orientated traders might now want to apply their favorite technical tool to the price charts of the Bonds, Crude Oil, Cotton, and Coffee. The first step is to identify the direction of the current price trend and then look for any technical signs of a reversal. A classical bar chartist would see a very different "look" to the four price charts. A technical comment on each of the four charts could be summarized as follows:

• T-Bonds: A price selloff in the last few trading sessions (early January) violated underlying support at the former price high of 121-12. This is the first major criteria necessary for a Head & Shoulders Top price pattern to form.
• Crude Oil: A strong price uptrend is underway with no classical price signs of a top. This chart is shown in Figure 5.
• Cotton: Prices have been moving net sideways within a large seven cent/lb. trading range between 80.00 and 87.00.
• Coffee: A definite price downtrend is in progress, with prices below the 100.00 cent/lb. overhead resistance on the March 1996 future.

The Outcome

By the beginning of the next month, February 2, 1996, the following observations could be made:

• T-Bonds: Still within a large trading range between 118 and 122.
  Result of forecast: Result not in
• Crude Oil: Refer to Figure 6 to see the sharp price break of more than 2.50 $/bbl.
  Result of forecast: Large profit
• Cotton: A rally of 3.45 cent/lb. occurred.
  Result of forecast: Large profit
• Coffee: A rally of $13.30 occurred.
  Result of forecast: Large profit

Summary

The Crude Oil chart in Figure 6 is representative of the profitable outcomes in three of the four situations investigated. The directional forecasts based on the Commitments Report were impressive. Only the T-Bonds failed to produce a clear cut price move. However, any (small) trader with long T-Bond call options would have been holding wasting assets.

Figure 5: Chart When January 2 Commitments Report Data Was Available

Figure 6: How It Came Out

CRB Yearbook CD: Contains all articles since the 1965 Edition!

Author's Note: For further information on the use of open interest in technical analysis, refer to Mr. Shaleen's book Volume and Open Interest: Cutting Edge Trading Strategies in the Futures Markets, IRWIN Professional Publishing.

Kenneth H. Shaleen is President of CHARTWATCH, an international research firm to the futures industry. CHARTWATCH distributes a weekly technical publication and produces a daily telephone market update covering the financial instrument futures. Mr. Shaleen has instructed technical analysis courses for the Chicago Mercantile Exchange since 1978. These courses are also conducted in Singapore, Malaysia, Hong Kong, London and numerous other locations throughout the world. Mr. Shaleen is the author of Volume and Open Interest: Cutting Edge Trading Strategies in the Futures Markets (Probus 1991), Technical Analysis & Option Strategies (Probus 1992), three Chicago Mercantile Exchange course books as well as numerous articles. Mr. Shaleen can be contacted at CHARTWATCH, Fulton House, 345 Canal Street, Chicago, IL 60606, 312-454-1130. www.chartwatch.com

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