The COT Report: An Overview

To comprehend the futures market, you must first understand who is calling the shots and who is warming up the bench.

These players can be divided into three categories:

• Traders in goods (Hedgers)

• Traders who do not work for a living (Large Speculators)

• Traders on the street (Small Speculators)

Commercial Traders Shouldn't Be Ignored

Those who desire to protect themselves from unexpected price swings are known as hedgers or commercial traders.

This category includes agricultural producers or farmers who desire to hedge (minimize) their risk from fluctuating commodity prices.

Commercial traders are banks or corporations that want to protect themselves against rapid price movements in currencies or other assets.

Hedgers are most bullish at market bottoms and most bearish at market tops, which is a key trait.

What exactly does this imply？

Here's an example from actual life to demonstrate:

In the United States, a virus outbreak has turned people into zombies. Zombies go berserk, stealing strangers' iPhones and installing fart apps on them.

People become lost and helpless without their cherished iPhones, resulting in absolute chaos. This must be halted immediately before the country collapses into oblivion!

Guns and bullets don't seem to work on zombies. The only way to get rid of them is to cut off their heads.

Apple recognizes a “market need” and decides to create a private Samurai army to protect iPhone users who are vulnerable.

Samurai swords must be imported from Japan. Tim Cook, Apple's CEO, approaches a Japanese samurai swordsmith who expects payment in Japanese yen when the swords are completed in three months.

Apple also understands that if the USD/JPY exchange rate decreases, it will have to pay more yen for the swords.

The company buys JPY futures to protect itself, or rather, to hedge against currency risk.

If the US dollar falls against the Japanese yen after three months, the firm's profit on the futures contract will cover the increased cost of its transaction with the Japanese swordsmith.

If USD/JPY rises after three months, the firm's loss on the futures contract will be mitigated by the lower cost of its payment for the futures contract.

The Big Speculators are in it to win it.

Speculators, unlike hedgers, who are not interested in profiting from trading activities, are just interested in the money and have no desire to possess the underlying asset!

Many speculators are referred to as “hardcore trend followers” because they buy when the market is rising and sell when it is falling.

They will continue to add to their holdings until the price trend reverses.

Because they have such large accounts, large speculators are also major players in the futures market.

As a result, their trading activities have the potential to create significant market movement. They frequently trade in line with moving averages and hold their positions until the trend shifts.

The Small Speculators are cannon fodder.

Small retail accounts, on the other hand, are owned by small speculators. Hedge funds and independent traders make up this group.

They are anti-trend traders that are frequently on the losing side of the market. As a result, they have a lower success rate than hedgers and commercial traders.

They do, however, seem to be disproportionately concentrated at market tops and bottoms when they do follow the trend.