skc
Goldmember
- Joined
- 12 August 2008
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Hi edman,
I am still pairs trading but I am doing 4-5x more volume in directional stuff these days. It illustrates where my focus has been although it is not a fair comparison given the much shorter term nature of my directional trading. In terms of P&L on each strategy, it swings around a bit but it's probably 20-30% pairs on average, although month-to-month variations can be quite big.
I agree that the trades on offer don't seem to be as good these days - but I am comparing it to say 2-3 years ago rather than 5. One thing I haven't done much of late is data analysis on my trades... like comparing prices traded vs signal, average % gained etc (like the stuff that I used to do on my journal 4 years ago). So I don't know for sure if my feeling of declining pair profitability was in fact supported by real data as opposed to just bad trading. For instance, when the strategy isn't performing well and you develop a low expectation per trade, you end up taking any quick profits you see so the impact from the occasional extended divergence is exacerbated, which makes the profitability look worse than the actual underlying system.
However, there are a few observations that I think is true though without resorting to data.
- The REITs was great stable income for a while but the edge is definitely thinner. 3-4% was a good solid trade which 2% is probably more the norm today. The divergence between different REITs (retail vs office vs residential, passive vs active mangers) have been strong and persistence, especially in 2017, although this has certainly happened before.
- Quite a few sectors have "thinned out" in tradable ranks. Utilities used to be a good sector but now there's really only 3 names (AST, APA, SKI) left - noting that 4 names give you 6 possible pair candidates which 3 names give you only 2. Same with telco (IIN, MTU, AMM out), mining services (every one is a takeover risk), media (all $hit), age care (all $hit) and selected commodities (energy, nickle, iron ore etc) thanks to the decline in second tier names (AGO/MGX used to be a trade). But off the top of my head I can't think of any meaningful addition to my favourites list.
- The rise of ETFs and other indexers are most likely impacting pairs trading. Gold in particular is dominated by GDX/GDXJ and some volatility can be huge and lasts longer than the typical pairs holding period. There is most likely a way to profit on the back of them but I am not there yet.
- The rise in "shockers" frequencies which I think increases the tail risks - although one could argue that you can just as easily be on the right side.
It's probably worth maintaining a certain low level of activity as long as pairs trading remain profitable... and as long as it doesn't impact your other trading. That's the best way to keep a pulse on the strategy itself and give you the opportunity to explore new niches (e.g. how to deal with ETF?) whilst waiting for volatility to return.