A few weeks ago we published a piece highlighting the latest Commitment of Traders (COT) report and reporting that short positions in gold were rising by large amounts. The latest COT report shows that not only are short positions still rising, but they are now at the highest levels of 2014 - that is pretty bearish sentiment amongst the money manager community and seems to us like a great contrarian indicator.
While the COT report is not always a good indicator of the future price of gold, it does provide investors holding gold ETFs (GLD, SGOL, and PHYS) and gold equities an insight into the positions of commercial producers and large money managers.
If you are interested in keeping up with COT report, or any other important measures that we monitor in the gold market, consider following me (clicking the "Follow" button next to my name) or join our free email list where we send out a weekly email summarizing all the important events in the gold and silver industry, which includes our latest articles and research pieces and all of our all-in pieces as they are published.
About the COT Report
The COT report is issued by the CFTC every Friday, to provide market participants a breakdown of each Tuesday's open interest for markets in which 20 or more traders hold positions equal to or above the reporting levels established by the CFTC. In plain English, this is a report that shows what positions major traders are taking in a number of financial and commodity markets.
Though there is never one report or tool that can give you certainty about where prices are headed in the future, the COT report does allow the small investor a way to see what larger traders are doing and to possibly position himself accordingly. For example, if there is a large managed money short interest in gold, that is often an indicator that a rally may be coming because the market is overly pessimistic and saturated with shorts - so you may want to take a long position.
The big disadvantage to the COT report is that it is issued on Friday but only contains Tuesday's data - so there is a three day lag between the report and the actual positioning of traders. This is an eternity by short-term investing standards, and by the time the new report is issued it has already missed a large amount of trading activity.
There are many different ways to read the COT report, and there are many analysts that focus specifically on this report (we are not one of them) so we won't claim to be the exports on it. What we focus on in this report is the "Managed Money" positions and total open interest as it gives us an idea of how much interest there is in the gold market and how the short-term players are positioned.
This Week's Gold COT Report
This week's report shows speculative traders were once again very bearish on gold and increased their short position for the fourth consecutive week.
There are many different things to note here, but what we really stands out in our opinion is that the short position has been rising for the last six weeks and the gold price has fallen all six of those weeks.
Short positions with Managed Money traders are now at 77,770 outstanding contracts, and that is the highest level of 2014. The last time we saw levels of short interest higher was 12/3/2013 when short interest was 79,631 contracts. So we haven't been at these large levels of sort interest since early December - which was the month in which gold bottomed.
We've also seen open interest in gold contracts increase as the gold price has dropped, traditionally a bearish sign. Essentially that means that people are interested in gold - but only to short it. As a contrarian though, that is a good sign because the greater short interest gets the more fuel that can be added to any rally as shorts are forced to cover - so we actually like the fact that short interest is so high.
Conclusion for Investors
Is this the gold bottom? We have no idea. But what we do note is that there are a lot of short positions in the gold market and interest in gold is increasing because investors want to go short - that's a good indicator that sentiment is very bearish.
While picking a bottom is a fool's game, extremely bearish sentiment is usually a good sign that a bottom is close or at hand. Since we're long-term gold bulls and we believe that gold has strong fundamentals for investors looking at multi-year investment horizons, these are excellent entry points to build on existing positions or establish gold positions for new investors.
Thus investors would be wise to be building gold positions and increasing exposure to physical gold and the gold ETF's (SPDR Gold Shares , PHYS, CEF). Miners are a bit murkier for investors as some bullish gold fundamentals are bearish for miners, but they still provide a lot of leverage to the gold price so investors may want to consider evaluating gold miners such as Goldcorp (NYSE:GG), Agnico-Eagle (NYSE:AEM), Newmont (NYSE:NEM), or even some of the explorers and silver miners such as First Majestic (NYSE:AG) or Pan American Silver (NASDAQ:PAAS) - though we're not suggesting these companies specifically - only suggesting them for further investor research.
Of course gold may go down further and short positions may increase to higher levels, but timing that bottom is not something we can do as investors so simply buying in during pessimistic times is good enough for us. Investors should also remember that according to the COT dataset (that goes back to 2006), the highest gold short position amongst managed money traders was 80,147 contracts held in July of 2013 - pretty much at the summer 2013 gold bottom. While not a certainty, in a contrarian's eyes, it would seem a good reason to buy regardless of your view on gold.
Disclosure: The author is long SGOL, PAAS.
The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.