How to Use Open Interest to Predict Price Change
How to Use Open Interest
A "big spec fund" (speculative trading fund) is group of investors who pool their money and hire a manager to trade, in this case, commodity futures.
The trades placed by big spec fund has nothing to do with a cash market transaction. Their trades are simply an effort to make money on the price movement of a commodity. If the commodity price is expected to decline, a trader, including a spec fund, will sell futures contracts they previously bought to “get out” of the market before it declines too much. He is now “flat” or “net flat” the market.
However, if the spec fund manager expects the future price to continue lower, he can sell more futures contracts to take his market position from “flat” to “short”. How can any trader, including you, sell something he does no own?
That is why they call it the "futures" market. When a trader sells corn futures before he buys corn futures, he really is engaging in a contract to deliver corn to a CBOT approved grain warehouse (grain elevator) at a later (future) date. He is now "short" the corn market. Sometime before the delivery period arrives, the trader can "offset" the short (sold) corn futures position by buying futures contracts in the same contract month he previously sold to establish the short position. This buying of short positions is called "short covering". If the buy price is lower than the sell price, the trade made money. If the buy price is above the sell price, the trade lost money.
As a grain marketer trying to decide when to price grain, one should know what the position the big spec funds hold and are they adding to that position or reducing that position. Why?
Every futures contract open (on the books) and waiting for the price to decline or rally must be offset with an equal but opposite transaction or give or accept physical delivery during the delivery period. If the big specs are "short" 250,000 contracts of corn, they will have to buy those contracts "someday".
One of the keys to successful marketing is predicting what or when the big spec funds will liquidate their long or short position?
How to Use Open Interest of Big Spec Funds to Predict Price Movement
On June 27th, 2017, the November 2018 soybean futures contract settled at $9.30. The big spec funds were net short 146,696 contracts.
On July 11th, 2017, November 2018 soybeans settled at $10.22 and the big spec funds were net short 23,985 contracts.
From the middle of October to the middle of December 2017, November 2018 soybean futures contract traded sideways above and below $10.00.
The big spec funds’ net futures position was net long 30,454 contracts on October 17th, the third Tuesday in October when November 2018 beans settled at an even $10.00.
On November 7th, 2017, November 2018 beans settled at $10.04 ¼ and the big spec funds were net long 7,938 contracts.
On the close of business November 14th, the big spec funds were net short 11,411 contracts of beans and November 2018 beans settled at $9.81.
On December 5th, 2017, November 2018 beans settled at $10.18 ½ with the big spec funds net long 30,561 contracts.
On December 12th, 2017 November 2018 beans settled at $9.94 ¾ with the big spec funds net short 13,584 contracts.
November beans traded down to $9.67 ½ on Friday, January 12th, 2018 with the big spec funds reported to be net short 122,624 contracts the following Tuesday.
November 2018 beans returned above $10 the last week in January 2018 with the big spec funds net short 54,928 contracts; on that day November beans settled at $10.13 ½. All the analysts on RFD TV network were recommending farmers contract old and new crop soybeans and most grain merchandisers my clients talked to were saying the same thing. Na, Baby, Na.
The whole growing season was ahead, the seasonal trend was up and the big spec funds held a substantial short position. No, Folks, that is not a time to price bean futures.
Tuesday March 6th, November 2018 beans settled at $10.45 and the big spec funds were net long 148,922 on that day, which was the largest long position the big spec funds had held since July 2016. That is a day to price beans even though the growing season is still ahead and the seasonal trend is still up.
On Tuesday, May 29th, November 2018 beans made the high for the year at $10.60 ½. The big spec funds were net long 81,154 contracts.
The following Tuesday, November beans settled exactly 40 cents ($10.20 ½) lower and the big spec funds net long 36,546 contracts.
The following Tuesday, November settled at $9.74 ½ and the big spec funds were net short 11,442 contracts.
On Tuesday, June 19th, November beans settled at $9.11 with the big spec funds were net short 52,390 contracts.
Ten months later, on the second Tuesday in March 2019, the big spec funds were net short 116,742 contracts and May beans settled at $8.97.
On the first Tuesday in April 2019, May beans settled at an even $9.00 with the big spec funds net short 91,728.
And that is why a grain producer and grain buyer needs to follow what the big spec funds are doing.
Update 25 January 2020:
A year ago today, the big spec funds were net short 70,696 contracts of beans with March beans at $9.25 and November beans were $9.64. Today, the big specs are net short 42,534 contracts with March beans at $9.02 and November beans are at $9.38 ¾. Not much there to indicate price direction.
But take a look at the corn:
A year ago today, the big spec funds were net long 21,493 contracts of corn with March corn at $3.80. Today, they are net short 114,054 contracts of corn with March corn at $3.86, July corn is at $3.98 and December corn is also $3.98.
Update 30 May 2020:
July beans are at $8.40¾ and November beans are $8.51¾. The big spec funds are short 14,065 contracts. There is still not much there to indicate price direction.
However, July corn made its contract low on April 21st at $3.09 and December corn low was $3.25½, the same day spot month May corn made a perfect double bottom (trend change signal) on the continuation (long term) chart at $3.01. The big spec funds were net short 205,792 contracts of corn that very day.
July corn settled yesterday at $3.25¾ and December at $3.38¾. The big spec funds this past Tuesday were net short 312,459 contracts of corn.
The largest net short position they ever held was 334,262 contracts on 22 April, 2019. The low for spring of 2019 was on May 13th and rallied $1.10 the next five weeks with the big spec funds net long 99,506 contracts.
If you do not see the bullish implication for corn, you don't understand what you just read. Read again and ask questions.
30 October 2020
The Commitment of Traders (COT) report is issued Friday afternoons by the Commodity Futures Trading Commission (CFTC).
The COT reports open interest positions of four groups of traders as of the close of business the previous day. The four groups are the big speculative funds, commercial traders, index funds and the small traders...
When I report the Weekly Basis, I report the change of futures prices from Friday to Friday. I also report the change in the open positions of the big spec funds and index funds and the total open interest change from each Friday's COT report. I have always felt a bit guilty because I know the price change is Friday to Friday, but the open interest changes are from Tuesday to Tuesday.
Because the change in total open interest was so great on today's report, I decided to check what the price of January beans did during those same five business days covered by today's COT.
January beans were up 22¼ during those five days that open interest declined 158,448 contracts. That completely reverses the conclusion of what I reported on the Weekly Basis!
The decline in open interest means traders were getting out of the bean market, which I correctly stated in the Weekly Basis. However, because soybeans were up 22¼ cents those five days covered by the COT, the buying was being done by traders liquidating their short positions!
The significance of that position liquidation, in an up market, means the rally will be short-lived because the buying was being done by traders getting out of the market rather than new traders and new money coming into the market to buy.
There is no limit to how many new traders and new money can come into the market and such a bull move is powerful and could be long lived. But a bull market shooting higher because traders are buying to liquidate their short positions will end fairly quickly because there is a fixed number of short positions to liquidated, leaving the market void of buyers and the price will drop like a rock.
On Tuesday, the day the COT numbers are collected after the close, January beans made the contract high at $10.88½ and settled at $10.76½, up 7 cents. Note Tuesday's settlement was 12 cents off the high! The bean market ran out of buyers shortly before the market closed Tuesday and continued to fall out bed, losing 42 cents from Tuesday's high to today's low. The fact January beans settled today 10 cents above today's low is a strong indication new buyers have finally decided to step-in and buy. I would expect steady to better bean price Sunday night and if Brazil continues to see less than normal rainfall, beans could really firm-up next week.
Don't ever forget the COT is Tuesday to Tuesday, not Friday to Friday. Had we known open interest was declining so sharply the five days ending last Tuesday, we would have known the market was going to run out buyers and the price would fall out of bed the past three days.
Soybean Open Interest Change for Commercial Traders on 27 August 2021 Commitment of Traders (COT)
Grains and oil seeds have two markets, namely cash and futures. One can buy grain in the cash market and be the owner of real bushels of grain that need to be stored or one can buy grain in the futures market, aka, own grain on paper.
The futures market has two kinds of traders: commercials and speculators.
Speculators, also known as non-commercial traders, trade futures because they are willing to risk losing money in exchange for the opportunity to make money on the changing prices of commodities.
Speculators are divided into three groups by the Commodity Futures Trading Commission (CFTC):
Large non-commercial traders, also known as big specs. The number of contracts they trade is so large, the CFTC requires their weekly activity reported to the public.
Non-reportable traders, also known as small specs. The number of contracts they trade do not need to be reported to the public every week because the small number of contracts they hold individually do not impact the market.
Index funds. These pools of money are managed speculative trading accounts which have specific requirements for their investors usually tied to the cash market in some way. However, the index fund managers are trading futures to make money for the fund, not any specific members of the fund.
Commercial traders, also known as hedgers, trade futures to reduce the risk of price change in the cash market. Whatever they do in the cash market, they do the opposite in the futures market.
When a merchandiser buys corn in the cash market, he sells an equal number of bushels (rounded to the nearest 5,000 bushels) of corn in the futures market. When the merchandiser sells those physical bushels of corn in the cash market, he will buy the same number of bushels in the futures market to liquidate his short (sold) position, because he no longer has the risk of price change in the cash market.
Grasp the concept of commercials always do the opposite in the futures of what they do in the cash market.
Each Friday afternoon at 2:30 PM Central Time, the CFTC issues its Commitment of Traders (COT) Report.
In my end-of-the-week summary, I commented that the change in the soybean open interest for commercial traders was bullish. The screenshot below is from the CFTC weekly COT issued Friday afternoon (27 August 2021). The screen shot is only the soybean numbers for the COT.
The four rectangular boxes identify the four groups of traders. The large rectangle is the total number of contracts commercials are long and the total number of contracts the commercials are short. At the bottom of that box are ovals around the number of long and short contracts added or removed by commercials for the week ending the previous Tuesday.
The commercials added 22,535 contracts to their long position. A long position is a “buy” position so, the commercials sold in the cash market 112,675,000 bushels of soybeans (5,000 bushels per contract times 22,535 contracts).
The commercials added 5,976 contracts to their short position. A short position is a “sold” position so, the commercials bought in the cash market 29,880,000 bushels of soybeans (5,000 bushels per contract times 5,976 contracts).
Thus, the commercials sold 82,795,000 more bushels of cash (physical) of beans than they bought.
If commercials continue to sell more cash beans than they buy, eventually they will have to do something to get more beans to meet their demand. That something will be to raise the price of soybeans. It could be their basis; it could be an increase in futures price or both. All the possibilities are good for growers & owners of soybeans.