-- Posted 28 July, 2011 | | Discuss This Article - Comments:

The commitment of traders is released each Friday by the futures market regulator, the CTFC.  Whereas there are plenty of concerns with the CTFC’s involvement in the futures market, generally the COT data proves to be a very important tool in understanding market highs and lows.

The real function of the futures market, outside of finance, is to allow buyers and sellers to exchange fungible products (commodities) on a central exchange.  Buyers and sellers can also hedge their future purchases, thus keeping the namesake of the futures market.

COT Momentum

In each release, there are three types of traders listed.   These are commercial traders, noncommercial speculators, and the non-reportables, which are too small to meet regulatory expectations.

As silver buyers, we should focus on the commercial traders and noncommercial speculators.  Commercial traders are generally those who use silver in their business.  An example of a commercial trader would be a silver miner, which produces silver for sale on the open market, or a jeweler who purchases large amounts of silver for making jewelry.

(Of course, somehow, and at some point, the bullion banks entered the ‘commercial space’ – where they now currently maintain a very concentrated (relative to any other market) short position).

Then we have the noncommercial speculators, which (should) comprise large investment (bullion) banks, but do include investment management firms, and occasionally an individual investor with a larger than average bankroll.  These buyers and sellers are in the market for purposes of speculation, and they do not directly interface with silver in their daily operations.  They buy to resell, or they sell early (sell short) to rebuy at a lower price – often using sophisticated computer programs or trading strategies based on algorithms.

Market Mechanics

Ideally, the silver market is one where buyers and sellers can meet for future sales of a commodity. It is also a market where companies can hedge their future costs.  Silver is deliverable in physical form, though market players can sell their futures before delivery day to others who will make claim on the silver, allowing for possibilities in paper profits.

In other markets, commercial traders tend to be the most accurate in predicting the market’s future direction because they are, at the end of the day, the entities that produce the commodity itself, or use it in the production of an end-user good.  Commercial entities tend to pick tops and bottoms with excellence.

Normally, when the commercial column increases its long positions while speculative interest is increasing shorts, the market tends to cool.  When commercials increase their shorts while speculators cut back on long positions, a market top tends to follow.

This is a natural trend that appears when you have commodity producers, who can greatly affect a commodity’s supply, and speculators in the same market.  We can also observe that commercial interest is demonstrably more bearish at market tops, and bullish at market bottoms. 

This question is this:

With the silver market, if the bullion banks were not active (short) participants in the commercial category, with investment and industrial demand for silver increasing and competing for an ever diminishing supply, where do you imagine the price would be – or who would or could afford to be short?

Of course, the other burning question is when will the bullion banks exit their (commercial-selling) position?

There are two layers in a normal futures market, one which makes the noise (non-commercial speculators) and one which drives the market (commercial traders.)  Off the peak formed in spring 2011, the net commercial short position in silver has declined, and the price has risen accordingly.

A new bottom in the upper $30s is forming for silver.

Dr. Jeffrey Lewis

www.silver-coin-investor.com