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Trading Tips

More evidence of wrong-way retail

At the request of my PhD supervisor, I’ve been working on a document that will no doubt be part of my overall dissertation. It’s meant to explain retail spot forex in an academic manner (meaning multisyllabic words and copious formulas), with an eye toward setting the stage for my research into individual trader performance from a Behavioral Finance perspective.

In developing the area of the document which discusses market participants I came across a telling graph. Below is a 1-year look-back at the positioning of OANDA customers in EUR/USD, which I pulled from the broker’s website.

The black line is the EUR/USD exchange rate, while the histogram shows the overall net position of all OANDA customers (blue being net long, yellow net short). In many ways this is comparable to the Commitment of Traders (COT) report, which I’ve written about in this blog on several previous occasions (see Commitment of Traders – A Weekly Report Worth Viewing as a starting point).

What I want you to make particular notice of is how often in the chart above the market is rising when traders are positioned short and falling when they are long. This supports the often-expressed view that retail traders are usually on the wrong side of the market, and suggests in general terms that they trade in a counter-trend fashion.

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Trading News

CFTC expanding its COT reporting this week

I’ve posted on the subject of the Commitment of Traders report a few times on this blog as being a useful tool (Commitment of Traders: A Weekly Report Worth Viewing). As part of a general move toward more market transparency, the CFTC, which produces the weekly report, has been working on making it more useful. To that end, they are coming out with a more detailed report for the financials starting this week. Here’s the story from Reuters.

 By Nick Olivari and Christopher Doering
NEW YORK/WASHINGTON, July 22 (Reuters) – The U.S. Commodity Futures Trading Commission said on Thursday it will provide more information on positions held by large traders in financial futures markets, part of its push to boost transparency.

The new data, to be released weekly starting on Friday, “will provide the public with a better view into the financial futures marketplace,” said CFTC Chairman Gary Gensler.

The report will cover about 30 markets, a CFTC official said, including interest rates, foreign currency and debt.

Nearly all U.S. financial futures are traded at the CME Group <CME.O>. In the second quarter, CME handled 12.16 million contracts a day, 9.2 million of which were financial futures.

The new data will be a companion to the CFTC’s weekly commitment of traders report, published each Friday, which breaks down open interest by broad commercial and noncommercial categories.
The new report will show open interest by held by four categories of large traders:
– sell-side dealers, including large banks
– buy-side asset managers and institutional investors, including pension funds, endowments, insurance companies, mutual funds
– leveraged funds, including hedge funds and other money managers
– other traders who mainly use market to hedge risk, such as corporate treasuries, central banks, smaller banks and mortgage originators

The CFTC began issuing similar expanded trader reports for commodity and energy futures last September.
CFTC said similar to this report, the new data will provide a breakdown of each Tuesday’s open interest for markets in which 20 or more traders hold positions equal to or above the reporting levels established by the CFTC.

A CFTC official said the agency analyzed almost 4,000 traders across the markets using its “Form 40” and other data to determine which of the four categories a trader belongs to, and will soon upgrade its form to provide better data.

The CFTC said it also will make available four years of historical data dating back to June 13, 2006 in a couple of weeks.

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Trading Tips

Looking for Meaning in Big Open Interest Drop in S&P 500 Futures

Here’s something I noticed today that I found REALLY interesting.

First of all, take a look at this Commitment of Traders data chart for the last year. The green line is Open Interest. Notice the pattern of steadily lower troughs, as highlighted by the red trend line. The troughs come at each quarterly contract rollover period.

S&P 500 Futures Commitments of Traders Data through December 22, 2009

The reason this grabbed my attention was that Open Interest, meaning the number of active futures contracts outstanding, has been steadily declining through the year, even as the stock market has been rising. In other words, stocks have been going up in the face of increasingly less participation by the major institutions (those being the main players in the S&P futures).

Now look at how this year’s Open Interest compares to where it’s been over the last few years.

Monthly S&P 500 Futures with Open Interest

My initial reaction is to be concerned about the fact that the participation of the big players during this rally has been so light. Of course, on the flip side, it suggests there might be a lot of buying potential still on the sidelines.

I’m still mulling it all over, though. What do you think it means?

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Trader Resources Trading Tips

Watching Positioning Figures for Biases and Changes

As you may have gathered from some of my prior posts (like
Using COT data to spot potential big moves), I keep an eye on the weekly Commitment of Traders data to see if there have been any big shifts in trader positioning. A big part of that is tracking how  the small speculators are positioned in the mini S&P 500 futures. There it’s about looking to play against the herd when they are strongly positioned. As of last Tuesday they were 68% short the market, which keeps me suspecting that more upside is probably coming in stocks.

I also watch the COT data for currencies to see what the big players are doing. Now, this isn’t the same as seeing positioning data in the spot market, but it does at least hint at things. In particular, it’s worth noting when the are very strongly biased positions on, and when they change. We’ve seen both recently in a couple currencies.

Take a look at the tables on the left. Notice what has happened in the last few weeks with the way the Large Speculators have been positioned and how that’s changed over time. In most cases that means reducing previous large long positions.

For example, in the euro they were about 60% long and now are nearly 60% short. There wasn’t a switch in the pound, but traders have certainly gotten much more short than they were. This is from the dumping of longs, though, not the increase in shorts.

Things get really interesting when looking at the yen. The large players were 83% long just a few weeks ago. Now they are much closer to being neutral, though remain a bit long thanks to a combination of long reductions and short expansions.

Things are even more dramatic in the Swiss franc. There the large players reached almost 90% long about a month ago. Now they are almost right on the flat line thanks to a combination of both a major cut in long and a 3-fold or so increase in shorts.

If you compare these changes in COT positioning data to the price action of the last few weeks you can clearly see how things have been playing out. GBP/USD has traded down from near 1.69. EUR/USD has given up about 800 pips since the early-December highs. USD/JPY is up nearly 600 pips from its lows (meaning yen losses). USD/CHF has risen more than 500 pip from it’s lows (again, swissy losses).

Now, much of the action these last few weeks has put the market more toward a neutral position. The one exception is in the pound, where traders have been getting more short. That is going to be worth watching.

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Trader Resources Trading Tips

Using COT data to spot potential big moves

I’ve mentioned the Commitment of Traders data on a few occasions previously in terms of its usefulness for tracking the positions market participants are carrying in the futures market (see Commitment of Traders: A Weekly Report Worth Viewing). The action in the British Pound of late provides a pretty impressive example of how you could have seen ahead of time the prospects for a big reversal were you tracking the COT figures

Take a look at how short the big traders had gotten in BP futures.

BPCOT101909

Notice in particular the Bullish column under Large Speculators. See how as of October 13th that group was 88% short (100%-12%). That’s a massively lopsided market.  When a market is so imbalanced like that it sets up for some real volatility when things start going in the other direction. We’ve seen that this week in GBP/USD.

GBPUSD102209

GBP/USD rallied from about 1.5850 to almost 1.6650 in 7 trading days. That’s nearly 800 pips and a great deal of the action, especial the October 15th rocket ride, was the result of short stops being tripped. Basically, we saw a short squeeze in sterling. Had you been watching how short the big players were getting as per the COT figures you could have at least been alerted to the potential for something like this happening and strategized for it.

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Trader Resources Trading Tips

Taking the Trader Positioning Data to the Next Level

Note: This is a cross-post. It was initially put up on the Currensee blog.

The Commodity Futures Trading Commission (CFTC) produces, on a weekly basis, something known as the Commitment of Traders (COT) report. The COT report breaks down the futures (and options) open interest as of Tuesday each week in terms of what positions are being held by the different categories of traders. Traders have been using this information for many years to see what the smart money (and dumb money) is doing in the markets. (For more information on the COT, including current and historical reports, visit http://www.cftc.gov/marketreports/commitmentsoftraders/index.htm)

Consider the following table and graphic from a recent COT report on the E-Mini S&P 500 futures (courtesy http://www.commitmentoftraders.com).

COT-ES

The chart at the bottom shows the last five weeks worth of raw position figures for Large Speculators (hedge funds, etc.), Commercials (hedgers, etc.), and Small Speculators (retail folks) in terms of how many contracts they are long and short, and the relative balance between the two (the “Bullish” column indicates the % of outstanding contracts that are longs). If we look at the Small Spec section, we can see that as of August 25th the group was 55% long, but in the intervening weeks they have become  more and more negative to the point of now being 57% short (100% – 43%).

On the graph we can see the positioning of all three groups in the bars, plus the cumulative open interest plotted as the line (right scale). What is plotted for the positions is the net long or short. So for example, the most recent blue bar representing the Large Specs is at +113,761. That’s 420,038 long contracts minus 306,277 short contracts. The taller the bar the larger the net difference between longs and shorts.

Why is this information useful?

Because even at just the top level of analysis it can tell you when interest is moving in and out of a market. The greater the total open interest, the more participation there is. Drilling down a bit further, the more group-specific data can be very useful in tipping off potential turning points.

For example, at least over the last few years (and potentially further back), the Small Specs have been wrong about the direction of the S&P 500, as a group, most of the time. We need only to look at the graph above to see how the yellow bars representing the positioning of Small Specs have been negative almost exclusively since late January. They were at their most negative right about the time the stock market bottomed out in March and aside from a little blip they have stayed net short all through the big rally.

In other words, it’s not a precise thing, but watching the positioning of Small Specs in the E-mini S&P 500 futures can tell you a lot about where the market is going, namely, in the opposite direction of how they are positioned. This may sound cynical and mean, but that’s what the data indicates.

If we look at the COT data for the British Pound futures (equivalent to GBP/USD) we can see the Small Specs struggle to get it right there too. They were long the pound during the latter part of 2008 and into April of 2009 when the market was putting in its lows, then got short just before it took off to the upside. Most recently, the Small Specs got long just as GBP/USD started its big drop.

COT-BP

Taking it to the next level with Social Indicators

One of the items in development at Currensee is what’s known as Social Indicators (SIs). This is information based on the trading patterns and positioning of the members of the Currensee network of traders. Basically, we are talking about what in COT terms would be considered Small Specs. As we’ve seen already, knowing what the trading collective is up to can be valuable information. The SIs, though, go much deeper that just net position information.

Think of it like being able to drill down within the COT data and seeing how people trading different time frames and styles are positioned. And think of it as being able to see what the proven successful traders are doing as opposed to those who have yet to establish a positive performance record.

You can see how there might be some value of that info, right?

In the weeks and months to come there will be a lot of work done on the SIs to see how the patterns present themselves – to understand the data and how it can be used. As more and more traders become part of the community we anticipate the SIs will be able to present an increasingly useful set of metrics upon which decisions can be made.

Keep watch for further updates in the weeks to come.

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Reader Questions Answered Trading Tips

Forex Volume Figures

I had a question come in overnight regarding volume data and how it can be used for forex in terms of the price distribution methodology I use and teach. The question was:

In connection with your price distribution course, how do you find the volume figures needed for this type of analysis in forex?

I hear some use the futures as proxy but dont COT reports only come once a week?

Of course in forex trading volume is always an issue since there is no one aggregate source for spot trading figures. Futures volume can be employed as a proxy so long as you understand the limitations and can make the price level adjustments to make sure you’ve got the correct reference points. That volume will be available in any commonly available futures price feed service just as it would be for the S&P futures or gold or oil.

As for COT (Commitment of Traders), that won’t help you at all in this regard. As I’ve written before (Commitment of Traders – A Weekly Report Worth Viewing and Do you use the Commitment of Traders report to trade?), it’s got some potentially useful info for the wider perspective, but it won’t help you on a day-to-day basis.