Commodity Futures Trading Commission Moving Towards Transparency

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By Brad Zigler

Traders and pundits alike saw some of the fog surrounding the commodities market lifted last week, as the Commodity Futures Trading Commission [CFTC] unveiled a new system for reporting participants' commitments.

The CFTC's Disaggregated Commitments of Traders [DCOT] report will now be published alongside the traditional weekly Commitments of Traders [COT] format, which tracks the market back to 1995.

The impetus for the new report was a recommendation made by a September 2008 staff study about the influence of swap dealers and index traders on the commodities markets. At the zenith of the speculative bubble last year, the CFTC's traditional COT reports were widely lambasted for failing to delineate the activities of hedge funds and swap dealers in the oil market.

Differences Between Reports

In the traditional COT report, traders are separated into three categories within two broad classifications. "Nonreportable" traders are small speculators whose positions fall short of CFTC reporting thresholds. Large, or "reportable," traders, on the other hand, are required to report to the CFTC daily, due to the sheer size of their positions. These traders are further split into either "commercial" or "noncommercial" designations.

Commercials, who deal with a commodity in the cash market, include producers, merchants, processors and users of commodities that manage their business risks by hedging with futures. Swap dealers, or investment-banking operations that offer over-the-counter commodity derivatives to their customers, are also included in the commercial category, since they use futures to hedge residual exposures from their derivatives activities.

In contrast, noncommercial traders trade futures speculatively, and include professional money runners such as commodity pools, managed accounts and hedge funds.

The new DCOT report classifies traders along finer lines. In its initial iteration, positions in 22 physical commodities are split into four categories, according to traders' principal lines of business, namely:

  • Producer/Merchant/Processor/User
  • Swap Dealers
  • Managed Money
  • Other Reportables

The new classification system doesn't resolve all the inadequacies of the COT reports by any means, but it definitely provides more information than the old scheme. By splitting commercial traders into two separate categories, the CFTC makes it easier for you to gauge the influence of investment-banking entities—the swap dealers—on the commodities markets.

Dealer activities aren't completely transparent, however. For example, we're not seeing beyond the bank level to the ultimate customer. We also still don't know if a swap dealer's counterparty is speculative, such as a hedge or index fund, or a commercial entity dealing with the cash commodity. For certain commodities, namely those with hard ceilings on speculative positions, it's a fair guess that the counterparties are noncommercial. After all, a commercial entity could hedge a large cash position under an exemption to speculative position limits, thus forgoing a transaction with a swap dealer.

The new Managed Money category includes momentum-following managed accounts run by commodity trading advisers and commodity pool operators, as well as buy-and-hold (or sell-and-hold) commodity index portfolios and hedge funds.

More fine-grained detail can be obtained by further splitting out the index traders, but, for now, that can only be done by cross-referencing the CFTC's supplemental Commodity Index Trader [CIT] report. However, there's only partial overlap for analysis, since the CIT tally presently covers only a dozen agricultural commodities.

By default, any other reportable positions not assigned to the three categories enumerated above get dumped into the Other Reportables category. Traders holding these positions will typically be unregistered noncommercial traders.

The First Week For The DCOT

From the inaugural DCOT report for the week ending Sept. 1, we can see that:

  • Producers and users hold the largest net position in the futures market, followed, in diminishing order, by swap dealers, money managers, large noninstitutional speculators and small speculators;
  • Producers and users are heavily short futures—with one notable exception: Commercials handling natural gas are modestly long;
  • Producers and users of copper hold the largest proportional short position;
  • Swap dealers are almost universally net long, and the tilt toward the long side is greatest in three commodities: lumber, hogs and heating oil;
  • Dealers carry net short positions in only three commodities; they are, in order of magnitude: gold, sugar and silver;
  • For the most part, money managers are long, although there are four modestly short positions held in hogs, Chicago wheat, soybean oil and natural gas;
  • Large noninstitutional speculators are modestly long, with the heaviest long tilts in Kansas City wheat and coffee; net short positions are maintained in nine of the 22 reported commodities;
  • Small speculators are the most balanced traders. When taken together, small specs are pretty much flat; the largest long tilt is in silver, the shortest position is in live cattle.

The new DCOT report will be published side by side with the traditional COT format for the rest of the year, while the CFTC solicits comments on whether to replace one for the other. The agency has also set a short-term goal for collecting three years of historical DCOT data for publication.

For now, we have a just week's data. It's a start on the path to more market transparency. A small start, mind you, but a start nonetheless.