ASX Stock Pairs Trade Journal

[luckyforteja]

How did you guys go last week ? Markets had a wild wild ride, should be good time for pair trading..

 

[SilverRanger]

How did you guys go last week ? Markets had a wild wild ride, should be good time for pair trading..

It's been a good week, closed most of my pairs in profit (except SWM/FXJ), though I haven't opened any new ones due to Aus report season. I will temporarily focus on other markets

 

[skc]

How did you guys go last week ? Markets had a wild wild ride, should be good time for pair trading..

Very good week. Things were all out of whack and then whipped back with vengence.

Opened 24 trades and closed 30 over the last week. Took a lot of quick wins off the table because of the reporting season, but because of the volativity, those wins averaged ~2.5-3x my historical average win.

 

[Dracuu]

Just trying to fully understand pairs trading before jumping in. Would this trade make sense? Short ORG, Long QBE. 3.36 deviations. Very high correlation and cointergration and the charts look good to me. Is there anything that would deter the experienced pairs trader from taking this trade?

Thanks

 

[skc]

Just trying to fully understand pairs trading before jumping in. Would this trade make sense? Short ORG, Long QBE. 3.36 deviations. Very high correlation and cointergration and the charts look good to me. Is there anything that would deter the experienced pairs trader from taking this trade?

Thanks

QBE is an insurance company while ORG is in oil and gas and utilities. They display correlation and cointegration purely on a statistical level but not on a fundamental level.

You can trade the pair if you are aware of the fact and is comfortable with trading purely on a statistical level.

What you won't get with this pair is a natural hedge against fundamental factors. E.g. if there's an earthquake tomorrow QBE will fall a lot but ORG might not.

You should also be aware that QBE is reporting tomorrow.

Closed my QBE/IAG trade today at a loss - just don't feel like holding over profit announcement, even though I think QBE should have better relative performance tomorrow.

 

[Dracuu]

Thanks skc for your reply. Your points are well noted. I have taken a small position on the trade and will see how it goes. I didn't however know QBE was reporting tomorrow so it will be intersting. Thanks once again.

 

[skc]

Thanks skc for your reply. Your points are well noted. I have taken a small position on the trade and will see how it goes. I didn't however know QBE was reporting tomorrow so it will be intersting. Thanks once again.

Corporate calendar here.

http://www.morningstar.com.au/Stocks/CorpCalendar

It's not perfect but good enough for sidestepping most dates.

 

[Dracuu]

Thanks mate, it will come in very handy!

 

[skc]

Thanks skc for your reply. Your points are well noted. I have taken a small position on the trade and will see how it goes. I didn't however know QBE was reporting tomorrow so it will be intersting. Thanks once again.

Certainly an interesting day for QBE - huge 6% range but ended with a reasonable close. Had I held the QBE/IAG pair it would be down just a fraction at the end of the day, but I could just easily have panicked and sold around the bottom. Same with pairing with ORG.

That's why avoid holding over profit annoucement can result in a smoother equity curve, especially in this market condition.

 

[luckyforteja]

I have been paper trading using this strategy for last two months, it has been an interesting ride. I have couple of questions,

What criteria would you use to find your pairs ?

I have used PTF back tester and selected pairs based on Correlation and Co-integration in the same sector. Would this be enough ?

Is there anything in particular that I need to look for in the Ratio, Spread, RSI or any other charts ?

Do you look for any technical indicators for individual stocks RSI, MA etc before entering the trade ?

I am analyzing my result from last 2 months to see if I see any patters, I have taken every trade that was generated by PTF, so I am not expecting a flash result.

Thanks in Advance
Sri

 

[skc]

I have been paper trading using this strategy for last two months, it has been an interesting ride. I have couple of questions,

What criteria would you use to find your pairs ?

I have used PTF back tester and selected pairs based on Correlation and Co-integration in the same sector. Would this be enough ?

Is there anything in particular that I need to look for in the Ratio, Spread, RSI or any other charts ?

Do you look for any technical indicators for individual stocks RSI, MA etc before entering the trade ?

I am analyzing my result from last 2 months to see if I see any patters, I have taken every trade that was generated by PTF, so I am not expecting a flash result.

Thanks in Advance
Sri

Read through the whole thread. Most answers are there.

 

[luckyforteja]

Read through the whole thread. Most answers are there.

Hi SKC,

Thanks for the prompt reply. I did read the entire thread as well as 400+ page thread in elitetrader as well. I am one of those guys who over analyzes things and being an engineer doesn't help, eye for detail is good but looking for perfection in trading seems to be difficult.

I did various things in last two months with reasonable results which really put me off.

1) I selected pairs based on Fundamental Business, which were making profits in last year. Didn't concentrate in Correlation and Co-integration. I ended up with over 150 pairs
2)Had multiple signals every day and I traded based on individual RSI and MA
3)Result seems fairly similar to the Pairs which were selected using only correlation and co-integration.

Now I started having doubts about the importance of correlation and co-integration. Considering correlation and co-integration are statistical figures, Why would selecting 2 stocks with similar fundamentals wouldn't give same hedging benefit?

I asked all those question because I am not sure whether I am in the right direction.

Thanks in Advance
Sri

 

[skc]

Hi SKC,

Thanks for the prompt reply. I did read the entire thread as well as 400+ page thread in elitetrader as well. I am one of those guys who over analyzes things and being an engineer doesn't help, eye for detail is good but looking for perfection in trading seems to be difficult.

I did various things in last two months with reasonable results which really put me off.

1) I selected pairs based on Fundamental Business, which were making profits in last year. Didn't concentrate in Correlation and Co-integration. I ended up with over 150 pairs
2)Had multiple signals every day and I traded based on individual RSI and MA
3)Result seems fairly similar to the Pairs which were selected using only correlation and co-integration.

Now I started having doubts about the importance of correlation and co-integration. Considering correlation and co-integration are statistical figures, Why would selecting 2 stocks with similar fundamentals wouldn't give same hedging benefit?

I asked all those question because I am not sure whether I am in the right direction.

Thanks in Advance
Sri

Selecting 2 stocks in the same industry helps you neutralise/reduce market/industry risk, but within the sector each stock do have their own characteristics - high/low growth, stable/lumpy profits, stronger/weaker balance sheet - not to mention market perception. Using correlation and cointegration can help you take into account of these factors from a stats window.

Having said that, I don't have a strick criteria when it comes to correlation and co-integration. My primary focus is the ratio chart and how the MA of the ratio is drawn. See post #950 - look for patterns that look like pairs 1 and 4, but be aware that something like pair 5 can also happen - nice range until it is broken. I supplement that with getting a good handle on the typical price behaviour of the stock and a little bit of technical analysis.

Always remember that the software is nothing more than a giant (and very useful) spreadsheet that works out various statistics between pairs. The parameters set by the trader, as well as the execution of the trades, are what give you the edge.

 

[fingl]

Hi Skc,

Is not pair 3 a trending one? Which pair give you most consistent result? Might pair 5 give individual stk price behavior or funda give some clue on the out of range? Most of the chart are of pair 2 with some on range and some trending.
Pair 4 is very rare. Most of the pair range pair 4 are for a while. Skc do you want to have the price range to be minimum of X wks or mths to establish is suit for signal considering?

 

[skc]

Hi Skc,

Is not pair 3 a trending one? Which pair give you most consistent result? Might pair 5 give individual stk price behavior or funda give some clue on the out of range? Most of the chart are of pair 2 with some on range and some trending.
Pair 4 is very rare. Most of the pair range pair 4 are for a while. Skc do you want to have the price range to be minimum of X wks or mths to establish is suit for signal considering?

Pair 1 = SUN/IAG. Co-Integration = 0.99
Pair 2 = CFX/CPA. Co-I = 0.9
Pair 3 = SIP/API. Co-I = 0.99
Pair 4 = CQR/DXS. Co-I = 0.32
Pair 5 = LLC/SGP. Co-I = 0.23
Pair 6 = STO/ORG. Co-I = 0.59

These pairs are all fundamentally correlated and I trade all of them except Pair 3. I chose these pairs to illustrate how the Co-integration number doesn't always explain the behaviour of the pair. Pair 4 is an exception because CQR went through a share consolidation. And I think that's one of the issue with the co-integration number - I believe it goes back too far and isn't tailored to the "speed" of your signal (I could be wrong as I don't know the calculation of the Co-I stat).

Pair 3 used to perform well but SIP has powered along while API is in the doghouse. The ratio is now 2.4 so it's very much broken.

Pair 5 blew out to 3.1 but has now come back to ratio ~2.6. I traded this pair on the way up and closed for a bad loss on a time exit. SGP was really unloved for no reason I could see, while LLC was very strong, again for no reason that I could see.

I don't have a minimum range duration... take it when it comes because chances are the ranging won't stay forever.

If a ratio chart looks like pair 4 I would most often take the signal as soon as they come, but with a chart like pair 6 I would wait for better entries and make quicker exits.

 

[fingl]

>> I don't have a minimum range duration... take it when it comes because chances are the ranging won't stay forever.

Skc, what is the duration of the 6 charts on the pic? Exactly a trader zooming in on a 1 mth chart the ratio might be on a range pair 4 but zoom out on a 6 mths chart the ratio is in fact a little consoliidation of a existing trend
and trading might have loss.

 

[skc]

>> I don't have a minimum range duration... take it when it comes because chances are the ranging won't stay forever.

Skc, what is the duration of the 6 charts on the pic? Exactly a trader zooming in on a 1 mth chart the ratio might be on a range pair 4 but zoom out on a 6 mths chart the ratio is in fact a little consoliidation of a existing trend
and trading might have loss.

180 days. Considering the average trade duration is a matter of days the 6 month picture is a long enough view imo.

Of course "trading might have loss"... you can't always be 100% sure about everything before you pull the trigger.

 

[fingl]

View attachment 44495
If a ratio chart looks like pair 4 I would most often take the signal as soon as they come, but with a chart like pair 6 I would wait for better entries and make quicker exits.

Skc, you are saying you would take the signal as soon as they come for pair 4. What about pair 1, pair 2 and 5? Better entries referring to waiting for the ratio chart to form range prior to taking signal? Would you take more "with the trend signals" or equal counter trend signal for pair 2 and 5. Quicker exits apply for counter trend signal.

 

[effraye]

What about COH/CSL? COH struggling with product, whilst CSL benefitting from stronger US Dollar?

 

[skc]

Skc, you are saying you would take the signal as soon as they come for pair 4. What about pair 1, pair 2 and 5? Better entries referring to waiting for the ratio chart to form range prior to taking signal? Would you take more "with the trend signals" or equal counter trend signal for pair 2 and 5. Quicker exits apply for counter trend signal.

By better entry I mean either further divergence or a lower ratio (i.e. lower price for the long and higher price for the short). I try to use basic chart analysis to supplement these decisions where possible. e.g. Long signal @$5.15 activated on XXX, but it looks like heading towards support at $5. Then you might be better off waiting to see if it gets there before going long.

With trending pairs, I wait for better entries when they are countertrend, and probably immediate entry with the trend. But they are just guides and not gospel.

What about COH/CSL? COH struggling with product, whilst CSL benefitting from stronger US Dollar?

So you want to long COH with a product problem and short CSL which is benefiting from a strong $USD. Does that make sense in your view?