COT Short Sale Setup Preceding Seasonally Weak Coffee Market

The commercial coffee producers have taken the upper hand in the December coffee futures contract ahead of seasonal weakness through month’s end.

The weekly Commitment of Traders disaggregated futures report divides the markets into three basic groups; small speculators, large speculators and, commercial traders. Our thesis is that the commercial traders, whose interest in the futures markets relates solely to their business plan, ultimately prove to be correct in forecasting profitable turning points in many markets because they have better information than do we. Therefore, when the commercial traders are selling coffee futures ahead of seasonal weakness, we take note.

The first chart displays the mechanics behind our nightly COT Signals worksheet. We identify the commercial traders’ momentum. We wait for the large speculators to overextend their position against the commercial traders’ momentum. Once the market reverses back inline with the commercial traders’ directional indication, we enter the market. Finally, and always, we place a protective stop loss order at the recently created swing high or, low. The true discretionary nature of this setup lies in the profit taking.

coffee futures chart with commitment of traders analysis and seasonality

This is the setup we look for in our nightly Discretionary COT Signals worksheet.

It’s no coincidence that the commercial traders have turned to the sell side ahead of the projected seasonal weakness through month-end. As you’ll see below, the seasonal component we provide separately is strong enough to stand on its own. Feel free to view the seasonal results for verification. Our seasonal research is nearly ready to produce a short signal in the coffee futures. The Commitment of Traders analysis provides a sensitive tool for scalping in and out of the more broadly defined seasonal weakness.

Let’s see what we expect from the coffee market over the next couple of weeks.

seasonal coffee trading program performance

This is the out of sample performance for the seasonal coffee futures model we’ll be running.

Our standard delivery format for the seasonal trading program includes out of sample charts and Monte Carlo results adjusted to current market prices. The out of sample equity curve for the model is plotted in white, while coffee futures prices are plotted in yellow.

This is the out of sample closed trade equity curve for the coffee futures seasonal model be employing.

This is the out of sample closed trade equity curve for the coffee futures seasonal model be employing.

More important to than the equity curve are the Monte Carlo results. One of the biggest problems with seasonal trading is having such a small sample size with which to work. Monte Carlo testing helps provide a better big picture of returns than the small number of trades that populate a given model’s history.

The results, below tell us that the model’s average gain for this period is 5.86% with a standard deviation of 3.04%. This means that we expect two-thirds of our trades to fall somewhere between 2.82% and 8.9%. These returns are based on trading one contract of coffee futures with a point value of $375 on a $100,000 account to make the math simple. This equals a decline in the value of coffee and a profit to us of somewhere between 7.5 and 23 points per contract. Meanwhile, we’ll only be risking 2% from the entry price or about 2.25 points.

Monte Carlo returns for seasonal coffee strategy

Monte Carlo analysis can provide a better estimate of returns in models with small sample sizes.

When it comes down to it, successful trading requires three things. First, a strategy with a mathematically positive outcome; an edge. Second, the money management skills to not only implement the strategy but, also maximize its effectiveness through proper trade sizing. Finally, the biggest variable is number three; execution. We must stick to the strategy as closely as possible to generate similar performance. Try the Discretionary COT Signals or our, seasonal analysis for the first two, and we’ll wait till you suggest we trade it for you on the third.

This material has been prepared by a sales or trading employee or agent of Commodity & Derivative Advisors and is, or is in the nature of, a solicitation. This material is not a research report prepared by Commodity & Derivative Advisors’ Research Department. By accepting this communication, you agree that you are an experienced user of the futures markets, capable of making independent trading decisions, and agree that you are not, and will not, rely solely on this communication in making trading decisions.

The risk of loss in trading futures and/or options is substantial and each investor and/or trader must consider whether this is a suitable investment. Past performance, whether actual or indicated by simulated historical tests of strategies, is not indicative of future results. Trading advice is based on information taken from trades and statistical services and other sources that Commodity & Derivative Advisors believes are reliable. We do not guarantee that such information is accurate or complete and it should not be relied upon as such. Trading advice reflects our good faith judgment at a specific time and is subject to change without notice. There is no guarantee that the advice we give will result in profitable trades.