Pair Trading Strategy Journal

I am not a big fan of using options when pair trading.
Aside from the fact that it isn't a hedge unless both sides are deep in the money.
My main issue is the cost of the time horizon.

Consider the following stock example, SAP/IBM in 2010:
Example_SAP_IBM_TimeFrames.png

We see these dislocations being resolved in a 1 1/2 - 2 months time. An option can lose alot of value in 2 months.
Also I don't like the bid-ask spread. (By the way, a limit order at the midpoint often gets filled.)

Consider the following futures example, HO: Heating Oil / CL: Crude Oil in 2006:
Example_HO_CL_2006.png

This spread couldn't have been any nicer to trade, but it took three months. (Red line where I would hypothetically have entered.)

Here is another futures example, HO: Heating Oil / CL: Crude Oil in 2010:
Example_HO_CL_2010.png

Here the spread was more difficult to trade. It took four quarters to get 1.5 sigma to 2.5 sigma with many false breaks.
It then took another two quarters to revert. (Green lines show a failed and a profitable hypothetical trade.)

When one is talking about months or years to realize a profit, I can't see using options.

Consider the profitable HO/CL spread in 2010,

Futures: 16% profit on margin.
Entry long HO @ 2.1676 on 3/29. Exit HO @ 2.1319 on 7/22 P/L = -0.0357
Entry short CL @ 83.21 on 3/29. Exit CL @ 80.29 on 7/22 P/L = 2.92

Options: 48% loss on price of options.
Entry buy HO September Call 2.17 @ 0.1828 on 3/29. Exit @ 0.0533 P/L = -0.1295
Entry buy CL September Put 83.50 @ 6.35 on 3/29. Exit @ 4.93 P/L = -1.42

The loss of time value can easily kill a profit.
Thus options are quite unsuitable for pair/spread trading.
 
Quote from mpat89:

Was just wondering, when people pair trade (specifically using Pair Trade finder), is it generally acceptable within the strategy that stocks can be more than 15% 'offside'. For example I have shorted TCK:NYQ at 49.2356 (avg) and it currently trades at 56.87, approx 15% higher. Is it the case that I am not doing enough work into pre-empting such moves or is this natural within the strategy?
On a side note I have traded TCK against long BHP which I am currently only 8% up on so my current unrealised loss is running at 7.344% of one side & the pair ratio is sitting 2.4 std devs below its mean (I entered around 2 std devs below the mean). Just asking these Q's to get input into the way I am trading to see if those with experience may suggest better ways to do things. thanks folks
More...

My rule is that if a pair shows a combined loss >5%, it is closed.
It is mechanical, crude, and simple. Rare is the pair that comes back after being underwater 5%.
 
Quote from Dr Who:

Best of luck Afto. Keep us informed.

Do keep in the back of your mind what I said before. If this EA could make money, and bearing in mind the FX market is, to all intent and purpose, limitless, why doesn't Jared simply use it himself, rather than 'play' with it as he did in the log shown on the site ?

Also ask yourself why this is being given away ? The answer must be that Jared is getting a kick-back from Assobid. Nothing wrong with that in principle but the next question is, 'why would a broker give a kickback if it wasn't to his advantage ?'. Assobid dont charge a commission and if they hedge all their positions (which is doubtful as they probably bet against the trader, like most MT4 brokers) then how do they make their money ? On the difference in spread ? Pull the other one. We know exactly how MT4 brokers make their money (with the notable exception of MB Trading who charge a commission).

A short while back an insider spilt the beans about MT4 and documents were published that proved how bent it was and how it was designed with the capability for brokers to spike out traders and send different prices to different clients with the aim of knocking out stops.

Its a great shame Jared has gone down this route as it hasn't done his credibility any good whatsoever.
More...

I can only resonate with Dr.Who

Who knows it may even make money like he claims, but setting it up the way he has, makes it appear like a scam. If the software is as good as claimed, then people will be willing to pay for it. When a systems vendor forces all system signals to be executed through a single broker, it always looks suspect.
 
Quote from coreed:

My rule is that if a pair shows a combined loss >5%, it is closed.
It is mechanical, crude, and simple. Rare is the pair that comes back after being underwater 5%.
More...

Thank you for sharing.

Is that >5% of one side (ie avg loss 2.5% each side) of 5% of the sides added together (ie 5% avg loss each side)?

Also, do you monitor whether you could have had a better exit on the eventual reversion of the pair?
 
Guys, he may have signed an Introducing Broker contract with the outfit he's forcing s/w users to go through.

I was approached by DbFx about being an IB with them. Basically, every round trip would have paid me $10. You get quite a few people trading, and that could really add up to some $$$$$...

Let's say 250 people take the "free offer" and the system pulls for example, eight trades on average every 24hours. If the IB was compensated at $10 per round trip, that's $40/day x 250 people = $10,000/day. Not too shabby especially being automated, meaning Jared doesn't have to mentor and hand hold. In addition, being automated, he KNOWS trades are going to be made vs. the discretionary trader. Food for thought.

I like PTF, but this newest venture isn't passing my smell test.
 
Quote from Steven.Davis:

I am not a big fan of using options when pair trading.
Aside from the fact that it isn't a hedge unless both sides are deep in the money.My main issue is the cost of the time horizon.
The loss of time value can easily kill a profit.
Thus options are quite unsuitable for pair/spread trading.
More...

Thanks for the clear explanation; So do you recommend CFDs if you want to pairs trade on leverage?

Is there any website/software that list daily updated potential pairs based on ConIntegration ranking strength with statistically calculated possible convergence/revert to BBands 20MA(mean) within 50days?
 
Quote from virtualmoney:

Thanks for the clear explanation; So do you recommend CFDs if you want to pairs trade on leverage?
More...

To be honest with you, I didn't know what a Contract For Difference CFD was. It is much like a Futures Contract that never expires. It is traded OTC between the trader and a market maker. The initial margin is between 0.5%-30%. The tax effects are different from owning shares. More markets can be shorted.

Since I am in favor of risk weighting, the ability to apply leverage allows one to balance the risks in their portfolio rather than focus too much on the dollars. Since I have never traded CFDs and am not familiar with the shenanigans associated with these non-cleared instruments, I can't recommend them personally, but I like the idea.
 
Quote from mpat89:

Thank you for sharing.

Is that >5% of one side (ie avg loss 2.5% each side) of 5% of the sides added together (ie 5% avg loss each side)?

Also, do you monitor whether you could have had a better exit on the eventual reversion of the pair?
More...

5% combined. I used to cls out positions if one side had a loss > - 8.5%, but that is meaningless if the other side is showing + 8.25%

If pair is highly correlated, i.e. =>90% on 150day chart, and the trade has been open < 5 days, I will sometimes let it stretch > 5%. That's a judgement call once you know your pairs.
I haven't monitored if my exits cld be improved, (but I probably should):p
 
You must log in or register to reply here.
Back
Top