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A Look at the Commitments of Traders


Large traders are at one of their most bearish positions in years.


When I was young and stupid, before I became less young and hopefully a little less stupid, I was engaged to a girl for five years. Why she put up with me that long I have no idea, but the bottom line was that I just couldn't make the commitment.

The American Heritage Dictionary defines commitment as: "official consignment, as to a prison or mental health facility," so perhaps I wasn't entirely off base by putting it off for so long. In the market, we don't have to sign away half our assets every time we take a position, but the American Heritage definition sure seems to fit when the market doesn't go our way.
As a service to the public, the government not only releases information about our commitments of marriage, they also release information about our market positions.
Today we're taking a look at the Commitments of Traders.

What is it?

Each Friday, the Commodity Futures Trading Commission releases data that gives some detail as to who is holding various amounts of futures contracts, both those holding long and short, as well as spreads and options.

The Commission breaks down the data into hedgers and speculators. Hedgers are large traders ("large" being defined by the Commission and it varies by the futures contract) who trade futures to hedge their day-to-day business risk. Large speculators are those who hold more than the reportable number of contracts, but who have not identified themselves to the Commission as being a hedger. Everyone else falls into the non-reportable category, commonly referred to as small speculators.

Why should we follow it?

This data has been around for about 20 years, and has been a vital resource to those who trade commodities and currencies. Certain markets, like the grains, are especially amenable to this kind of analysis, as the makeup of the traders is pretty straightforward and hasn't really changed drastically over the years.
The data is a little more difficult to decipher for stock index futures, especially over the past few years. The introduction of the e-mini contract for the S&P in particular changed this data. For example, prior to 2002, the total dollar value of the net position of commercial hedgers was routinely several times that of their commitment in the e-mini contract. Since that time, we very often see a higher dollar commitment in the e-mini than we do in the full contract.

Due to that changing dynamic, the best way that I have found to analyze the data is to combine all the major index contracts, both full and e-mini versions, and compute the dollar value of the net positions for each of the three groups of traders. We can then use a relative measure like a stochastic indicator to see how bullish or bearish the groups are compared to where they have been.

These have been useful guides when they hit extremes. For example, using this methodology, when commercial traders were at their most bullish over the past year, the S&P over the following three months returned an average of +4.8% with 88% of instances showing a positive return. When they were at their most net short, however, that return dropped to -0.6% with 54% positive (after six months, the return was -1.7% with 44% positive).

What are the challenges?

We have no idea if these traders are actually bullish or bearish on the market's prospects. Any size of trader could be using the futures market for any number of purposes besides taking a directional bet, and it's naïve of us to think otherwise.
But the history of the indicator, over an extended period of time and across a wide variety of markets, shows that despite the many assumptions we have to make in interpreting the data, it has still been worth our while to familiarize ourselves with the data.
Another unfortunate aspect is that the data is only released weekly, and with a three-day delay at that. There is some hope that we could see more frequent updates, however – the CFTC used to collect it monthly, then bi-weekly, then weekly, so at least the trend is in the right direction.
What does it look like?
What's it suggesting now?

As you can see from the chart above, commercial traders are close to the most net short they've been over the past year. Last week's data was kind of tricky because of expiration, which almost always accounts for the largest weekly changes in the data, but overall there was an increase in the net short position.
I show that commercial traders were holding a net $24.8 billion worth of short positions in the index futures, in the bottom 6% of all readings since 1986. On the other hand, small speculators were holding $24.1 billion net long, in the top 93% over the same time period.
Commercial traders are considered the "smart money," in that the market tends to go their way when positions hit an extreme. The opposite is true of small speculators. So the fact that commercials are quite net short while small specs are quite net long has Boo all puckered up and hoping to give equities a little kiss.
Oh, and six years ago, after a two-month engagement (I got over the fear of commitment thing), I married the kind of woman I'd always hoped I'd find.
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