While we want to trade stocks spreads, looking for brokers giving more trading power for deposits. Any experience pairs traders ? Any opinion greatly appreciated.
I've been Pairs Trading for just over a year and now do it exclusively. Yet it's still a bit clunky keeping track of the spreads, executing offsetting trades, etc. For quick hits I've liked IB and they pay interest on short sales (but very low rate and only after $100k or something like that). For longer term pairs trades I'm OK with my regular retail broker. Would be interested in knowing of any automated tools you come across.
Thx, jrweiner I use TS for backtesting, but it needs transfering data from charting area back and forth. My concern is also potential gain/margin ratio. Trading pairs you hunt for points while using quite large blocks of stocks, right ? How brokers margin such trades ? Any of them let you open bigger positions regarding trading spreads ?
For testing pairs I use IB. With such low commissions I can start out with just 100 shares each way (although then I'm playing the spread then rather the ratio of the pair). Generally I start out my pair with only 500 to 1000 shares. I feel more comfortable with the smaller size and can then double up on the same pair if it goes against me. Many a time I have traded in and out to profitably close out a pairs trade. I haven't had to work the margin issue since I've forced myself to keep equity at 50+%. If a broker's margin requirements are more stringent than exchange or SEC rules you might be able to get some consideration from them. But for the most part I would think they would not consider the correlation between a long and short position as reducing their risk. And if they are already providing the maximum margin allowed, then they can't help you at all.
I don't know of any retail brokers that reduce margin requirements for stock spread trades - I'm not sure they can - they have to comply with Reg T, NASD, NYSE rules. Pro firms, OTOH, are more flexible, and can margin accounts based on perceived risk. I believe Bright simply nets long and short positions together when calculating margin/leverage, which is effectively even more generous than a normal risk assessment of a spread would be. Check out the "Professional Firms" forum.
Just the idea... Thank you. BTW, Jrweiner, how spreads (bid/ask) affect this trading ? How much results go beyond expectations ? Also, how would you describe real risk involved in this type of trading ? How far you go if the spread moves against you ?
ChrisM A big drawback of pairs trading is limited use of limit orders. I use a limit order to sell short, generally setting it at the ask price. So I minimize slippage on that side. But the buy side and trade exit are normally market orders. If you're day trading pairs, the lost spread will take a sizeable bite out of your profits. I'm comfortable now to let my pairs run. Plenty of times I've had lousy trades which I wasn't sure how to get out of turn around within a day or so. In another thread on Pairs Trading someone commented that they experienced lots of small gains and a few big losses. I think that's definately true. There's a lot more work than just buying too. On the other hand, this type of trading hedges against market risk making it a more comfortable approach for me.
jrweiner, thx for insights. I would rather stick to swing trading, trying to catch little more with less frequency, so bigger losses would be easier to live with, but more spread trading than pairs trading. I prefer hedging techniques myself, because mental comfort is a key to grow. My only concern is reward/risk. I understand that trading pairs is about scalping points and fractions. How does it relates to trading capital ? In other words, is it worth a pain comparing to other strategies ? Also, what do you think of The Complete Arbitrage Deskbook by Stephan Reverre (BTW sold out - good sign) ?
ChrisM, Sorry for the tardy response. I have not read the book you mentioned although I believe about a year ago I did preview it on Amazon.com. I did read the author's 2001 article in Technical Analysis of Stocks & Commodities which introduced me to pairs trading. If you haven't read it you should. It mainly dealt with RD and SC which are a great pair (although you have do to high volume to really make it pay) as they are parts of the same company. I traded this pair a great deal until I got burned when I was long RD and they were booted out of the S&P 500. The pair just haven't been as much fun to trade since. The problem I do have with the article is that the analysis was based on a retrospective look at pairs trading with decisions based on the closing stock prices. Just try and get the same spread as assumed in the article at the open the next morning. So I had to make my own adaptations to be able to make buy/sell decisions during the trading day. Also, SC is rather thinly traded by comparison so the loss of the spread or a movement before I get confirmation of my short sale sometimes hurt. If you're thinking of pairs trading with holds of several days, looking for a couple of points, you can probably do a fair comparison between trading methodologies. For short term trading it would be difficult without getting trade data on an intraday basis.