Strategies · Library · Stocks
§3.8Pairs and relative value
Pairs trading
Pick two stocks that usually move together. When one gets ahead of the other, short the one that ran and buy the one that lagged, expecting the gap to close. Dollar amounts are balanced so market moves cancel.
Open in the builderAs a long-only proxy; see how ARCANE uses it.
- Asset class
- Stocks
- Held for
- Days
- Data
- ARCANE has the data
- Symphony
- Builds as a long-only proxy
The rule
- Signal
- Gap between the two stocks' returns over a window, each measured against the pair's average.
- Entry and exit
- Open when the gap is wide; close when it narrows or after a set period.
- Sizing
- Equal dollar amounts on each leg, one long and one short.
How it fails
- The link between the pair can break
- Short leg needed
- Gap can widen before closing
- Costs eat small gaps
Data it needs
- daily prices
Daily closes for both stocks are available.
How ARCANE uses it
A Call that one of two peers closes a gap on the other can cite the return gap; paper only.
Builds as a long-only proxy. Holding whichever of the two lagged over the window keeps the long half; the offsetting short is lost.
Filed under the pairs and statistical arbitrage card
Find two securities whose prices moved together for a year. When the gap between them opens past two standard deviations, buy the laggard and sell the leader.
A paper plan from this card holds 5 to 126 days, stops at 1.5× the expected move and uses at most 50% of your risk budget. The card
Source: Kakushadze and Serur (2018), 151 Trading Strategies, §3.8, p. 46 of the SSRN version. Described in our words. Pairs and relative value is ARCANE’s filing, not the book’s.