Is this pairs trading or arbitrage?

Discussion in 'Strategy Development' started by dpg2020, Dec 22, 2005.

  1. dpg2020

    dpg2020

    Excuse my show of naivete in asking the following two questions as I am somewhat of a beginner at all this:

    #1.) Is it possible to successfully pairs trade GS/LEH? Is this termed pairs trading or arbitrage trading? It seems to me that each day there will be a point at which each of them diverge in price by about 0.5% then merge in price later in the day - almost always. Isn't is possible then to simply short the higher stock and go long the lower stock until both of them come together in terms of %gain/loss for the day. Can it really be this simple?

    #2.) Ex-dividend trading. There are numerous NYSE big cap stocks which almost always rise above the ex-dividend price the day after the ex-dividend is distributed. Is it not possible then to consistently buy these stocks the day before distribution and then, after collecting the dividend into your account on distibution date, simply sell the stock after it rises (as it virtually always does) above the price pre-dividend, usually the day after distribution.
     
  2. Arbitrage just means you are playing the relative valuation of two or more instruments. Pairs trading is a type of arbitrage.
     
  3. No, it is not that simple. Take a look at Dec.14 on that pair. With your strategy where would you have gone long? Where did the pair then go?
     
  4. You can try your pair trading theory out on this pair: CVX / XOM.

    Trading even now, but this is a limited time only deal(Christmas gift from Wall Street), so act fast!

    Good Luck!
     
  5. A strategy like that would be both pairs trading and statistical arbitrage. Pure arbitrige is riskless, statistical arbitrage just means that you are betting some statistic will revert to some mean and is not riskless.

    You can also create 'synthetic pairs' so that some weighted collection of symbols is highly correlated with some other weighted set of symbols.
     
  6. bvam1

    bvam1

    Why don't you backtest it with historical data? Then maybe, you will find out the right exits and entries.
     
  7. Regarding #1 - Carefully define "almost always" before diving in.
     
  8. reg

    reg

    First of all, I personally consider GS/LEH too volatile to pair trade.
    Secondly, pair spread prices do not always merge after diverging.
    It is when they start trending away from your entry that this type of trading can blow up your account unless you have pre-determined criteria on when to bail when this happens.
    Good luck.
     
  9. dpg2020

    dpg2020

    Are there any decent pairs then to trade with? Can you suggest some so I may do some paper trading? Thanks.
     
  10. This website allows you to enter a stock symbol and get the stocks that have the strongest correlation to the stock you entered. It's a good place to find stocks to pair trade.


    www.impactopia.com
     
    #10     Dec 26, 2005