THE ARBITRAGE AND SPREAD TRADING THREAD

candletrader · Feb 21, 2003

I thought I would create a depositary for the more esoteric strategies that some of us are using...

The two areas that I would like to include in what will hopefully grow to be a neat resource for all are:

1) Arbitrage trading e.g. index futures arbitrage, convertible arbitrage etc... the primary risk here is execution risk on both legs... assuming execution goes off OK, the profits here are risk free... for example, the basis spread on a stock index futures arb is mean reverting, so you are guaranteed of risk-free profits IF you can get adequate execution on each leg and on each side...

2) Spread trading e.g. intramarket spread, interexchange spreads, intermarket spreads... unlike arbitrage trading, this strategy has more risks, since both legs can go the "wrong way"... however, often risk is less than taking outright positions and spread trends can be usefully created even when the underlying instruments are chopping around... another thing is that a well-thought out spread will circumvent stop-running phenomena on the underlying contracts, since the risk in a spread trade is not directional, but relational....

This thread will hopefully generate some debate and be educational for all...

vulture · Feb 21, 2003

What dream world or fantasyland did you just wake from? Are you implying that you are doing index arbitrage off your pentium 4 in your apartment? Get real..

candletrader · Feb 21, 2003

Quote from vulture:

What dream world or fantasyland did you just wake from? Are you implying that you are doing index arbitrage off your pentium 4 in your apartment? Get real..

No, I am not... personally I do spreads... I totally agree with you about the practicalities of index arbing from anything but a T1 connection with automated execution... I included arbitrage as but one of two genres of the more esoteric form of trading...

rtharp · Feb 21, 2003

arbing has a limited reward

the more who do it.........the smaller the window.

So I doubt you'll see anything of value here for the thread. What incentive does anyone have of making the window smaller?

candletrader · Feb 21, 2003

Quote from rtharp:

arbing has a limited reward

the more who do it.........the smaller the window.

So I doubt you'll see anything of value here for the thread. What incentive does anyone have of making the window smaller?

If you do enough size you are occasionally able to profitably arb the difference between MCDT and MCDTA, or arb post-exchange rate differentials between ADRs and overseas stocks (unlike index arbitrage, you can do the above sort of arbitrage trades from a standard DSL, with no need for lightening fast connections or auto-executions)... having said that, decimalization has sort of made all this more difficult...

The potential for spreading, however remains good in my view... although spreading has (obviously) a larger amount of risk than arbitrage...

stock777 · Feb 21, 2003

Quote from candletrader:

If you do enough size you are occasionally able to profitably arb the difference between MCDT and MCDTA, ..

I spend over a year banging away on that one, but I'm afraid that game has long been over. Was a real circus there for some time. I occasionaly get involved now, but basically its a waste of time.

MrDinky · Feb 21, 2003

Quote from stock777:

I spend over a year banging away on that one, but I'm afraid that game has long been over. Was a real circus there for some time. I occasionaly get involved now, but basically its a waste of time.

Yeah, I can only bang em for about a year myself then it's on to the next one. I'll keep an eye on em so I'll have something to bang on just in case there's nothing else around.

What were we talking about again?

mskl · Feb 21, 2003

Quote from vulture:

What dream world or fantasyland did you just wake from? Are you implying that you are doing index arbitrage off your pentium 4 in your apartment? Get real..

Actually it is quite possible for some markets. Never overestimate the efficiency of the marketplace.

candletrader · Feb 22, 2003

Quote from mskl:

Actually it is quite possible for some markets. Never overestimate the efficiency of the marketplace.

I assume you are talking about the practical possibility of index arbitrage for the home-based trader... which index / indices are you referring to?

mskl · Feb 22, 2003

yes, I have done it many times and I trade from my home.

I mainly do index arb on the DOW but sometimes I will do a pseudo basket against the NQ. (top 20-40 names in equal dollar value)

For me it is not practical in the S&P.

Index arb is a very small % of my trading.

On the DOW, my cost/commission to enter is approx 2.5 index points. Keep in mind you don't really require that much capital for this. The min for me is 6 YM's against approx 200 shares of each DOW stock.

Never overestimate the intelligence of the market!!