How shall I evaluate the hedge test performance curve of hedge test for many pairs of stocks?
- Thread starter cf0532
- Start date
1 and 3, the brown line are strongly +correlated and typically mean reversion strategies are used here. Play on convergence.
The other two lines are possibly un or negatively correlated and are a bet on relative performance as in buying the stronger and selling the weaker. This is a play on divergence or trend.
Unseen in the latter two is whether there is a market, and or industry hedge, as in say, QQQ/AAPL. Thats a nice bonus.
But, some say twice the risk and half the profit because on occasion a well behaved spread suddenly blows out such as Lowes and Home Depot as it has in the past. Look up trader13,Maverick74 and of course Bone for some good spread trading wisdom.
Then again you may be looking for volatility and or price behaviour opinions
and if so then .....Never mind.
The other two lines are possibly un or negatively correlated and are a bet on relative performance as in buying the stronger and selling the weaker. This is a play on divergence or trend.
Unseen in the latter two is whether there is a market, and or industry hedge, as in say, QQQ/AAPL. Thats a nice bonus.
But, some say twice the risk and half the profit because on occasion a well behaved spread suddenly blows out such as Lowes and Home Depot as it has in the past. Look up trader13,Maverick74 and of course Bone for some good spread trading wisdom.
Then again you may be looking for volatility and or price behaviour opinions
and if so then .....Never mind.
Last edited:
If a pair were perfectly correlated, your chart would show a flat line. Which pair to trade? Totally depends on your overall strategy. The general idea behind pair trading is to wait for things to get out whack and then you buy/sell or sell/buy and hopefully they reverse. I saw a lot of guys blow up trying to do that with the baby bells....long the large cap and short the small cap. A bull market comes along and the big buys the little. Big goes down and little goes up....a lot. That's just one example. Usually, something fundamental happens but no one sees it at first and the pair just keeps spreading. The trader keeps adding in the hopes a reversal is near, because after all this pair has NEVER done this before. By the time you realize you are wrong, you've lost bundle.
Thank you for your reply and expalanation;
Do you mean we should not try buy one stock and sell the other at the same time?
If you trade pairs, you need to put on both sides at the same time. If you like you can scale in (both sides). So, if a full position is 1000 shares on each side, you can scale in by putting on 100-500 shares at a time. A lot of traders that trade pairs do it as part of core portfolio. They'll take some off when the spread widens/contracts and then put it back on.
ok, thank you!