Pairs trading: learn the logic first and then try it out.
I have been pretty busy this whole time, so I just read, comments but don't post regularly. Anyway, I am back. So, for this part, I am gonna try to summarize the key takeaways about paris trading after reading some websites and articles.
"The aim of pairs trading is to bet that, if the prices of 2 assets diverge, they will converge eventually."
So, for example. A pair trade of tech companies could be: Company A and Company B, that historically exhibit a strong positive correlation. However, due to recent market developments, Company A has experienced a significant price decline, while Company B has remained relatively stable. We anticipate that the prices of these two stocks will converge over a six-month time horizon.
But, since this is just a idea competition, i don't think we need to give mutilple examples. However, if you want to try it in the actual battle field. It's better that you run the strategy on more than one single pair.
2. Some basic terms. ( am trying to understand the algo actually)
2. 1 Correlation: Pairs trading relies on the principle of correlation, which measures the statistical relationship between two assets. Correlation ranges from -1 to +1, with -1 indicating a perfect negative correlation, +1 indicating a perfect positive correlation, and 0 indicating no correlation.
2.2 Mean Reversion: The core concept driving pairs trading is mean reversion. Assets that are historically correlated but temporarily deviate from their average relationship tend to revert back to their mean. Tradersexploitthis tendency by taking opposing positions in the assets of a pair, expecting their prices to converge.
3. Some unique strengths
I don't think it can be so easily impacted by the overal market direction? Cuz it's kinda a neutral strategy. So, i think it might be pretty useful during an extremely extremely turbulent market (not sure of it though)
There are 2 ways: 1) top-down and 2) bottom-up.
4.1 Top-down (Market prudence)
The top-down method is what we call market prudence.
In this case, we start with a hypothesis based on logical economic reasoning.
E.g. Futures and ETFs of the same products should behave similarly. The 10-year US bond might move similarly to the 10-year Canadian bond if both countries’ central banks are expected to behave similarly.
4.2 Bottom-Up
The bottom-up method entails collecting all the data under the sun and checking which 2 (or more) assets behave similarly.
We then retrospectively look for plausible reasons for the similar movement, or we might dismiss it as coincidence.
As retail traders, we usually go for the top-down approach.
If you are a $10 billion quant hedge fund, then yes, you have the resources to collect plenty of data.
5. Trying it out now.
reasons: I do think that amd would go up. I think there are still people wanna hold it and disregard the fear which whill drive the price down. as for apple. well, the reason is pretty easy. it will soon drop back I think. and i think it might happen soon. Besides, they are basically in the similar sector, so the market might exert the similar effect on them too.
Disclaimer: Community is offered by Moomoo Technologies Inc. and is for educational purposes only.
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AkLi : Nice analysis Emma! Insightful and a good read. I think there's an indicator you would like. It's called the Vortex Indicator. It tracts reversals in monentum and volume to gage where the stock might be going over time. I use it a ton for futures and options trading. Thank's again for sharing
DwightSJacob : When yo Lu buy two of the same kind of stock and sell one the short sale the other of the same kind of stock when bought of another same shirt selling one of them