Pairs Trading Strategy Model

Quote from spreadem:

You've got something working then.

What wrong with trading FD/May with a small amount of shares if it's more volatile than what you're used to?
More...

Nothing wrong with trading less shares in volatile spreads, I do that, but FD/MAY is not my cup of tea. Just by looking at the 5 mins chart over the last month I know instantly this is not what i want to trade. It doesn't "regress to the mean" very often. That's why I stopped trading FRE/FNM last september. Too volatile as well, but also less mean reversion.

Some of my best performing pairs correlate less than 0,8 on a daily basis. There's a lot of good pairs hardly anyone trades. Spend time looking at volatility in sectors instead of just correlation. Very high correlation is no guarantee for mean reversion (my best pairs are around 0,8).
 
Hi everybody,

I am glad that pairs trading is of interest to so many people. It is impressive that this thread received more than 300 posts and over 40,000 views.

My experience with pairs trading has been tough but quite profitable so far. It took me a while to find appropriate pairs to trade and pinpoint favorable entry and exit points.

Recently I have implemented an options on pairs strategy that work well with low underlying market volatility.

I tried intraday pairs trading and found it to be a waste of time and money (too much noise, stops are too tight, high commissions, and small profit objectives). Positional pairs trading with profit objectives 10-15% works the best for me.

I have attached some of my favorite pairs that I have successfully traded over the past 9 months.

Good luck to all. Keep it going...

Neutral Al
 

Attachments

I don't understand what these companies have in common that makes it appropriate to trade them as pairs. I mean, I see the charts, but I'm wondering how long the strategy has worked for you, whether you use leverage,etc.
 
Quote from thetraderprofit:

I don't understand what these companies have in common that makes it appropriate to trade them as pairs. I mean, I see the charts, but I'm wondering how long the strategy has worked for you, whether you use leverage,etc.
More...

Hi thetradeprofit,

What these pairs have in common is high correlation over several years. This high correlation allows you to stay truly market neutral as these stocks react to the market moves the same way over a significant period of time. The correlation is much less over 30-60 days, which tells you that the stocks are diverging at this time.
The stocks that are highly correlated over short and long periods of time are nearly impossible to trade because the divergence (the spread) is minimal. The fact that the stocks are in the same industry or sector does not mean much because the stocks could be highly correlated and stock A would consistently outperform stock B creating a trend. My statistical model shows that oscillation is more important than any other parameter to create a high probability trade.
What I look for in pairs are high correlation over longer periods of time ( ex: 2 years) and predictable oscillation around the mean (moving average) over the same period of time.
One could come up with a million reasons why the stocks oscillate around each other. The point is that if you assess statistical probability of each trade based on the broader markets, then neither underlying fundamentals nor the behavior of individual stocks matter.
This strategy worked well for me over 9 months now. I use no leverage in my trades.
I hope I answered some of your questions.

Regards,
Neutral Al
 
Quote from thetraderprofit:

I'll be interested in seeing how it plays out for you over a much longer period, say five years. I guess we will find out.
More...

Hi, thetraderprofit
It’s interesting, you mentioned 5 years period.
It also seems that Neutural Al uses www.pairstrading.com for his analysis.
In fact I back tested exact the same strategy www.pairstrading.com seem to be suggesting for 5 years back – since 1998, so I can say, you would be in the positive territory.
Using very simple trading model – enter the trade with extreme RSI and hold 7 days for example.
This strategy might be good for some hedge fund. With a lot of trades they would be able to make some (good) money on a fraction of a percent per trade.
That would not work for retail however.
As an individual I’m going for trades with potential high profits and I’m using some additional indicators – ADX for one.
Because I created my own model I do not use pairstrading.com, but here is some thoughts about the site:
They have 2 services: PairsGenerator and PairsGenerator Advanced.
I find PairsGenerator useless and even suspect one would be in the red trading ALL the pairs it finds.
PairsGenerator Advanced however has some useful indicators – like search for pairs with extreme RSI or RSI reverting from extreme.
Last time I checked they gave PairsGenerator Advanced for free for one week.
 
You must log in or register to reply here.
Back
Top