Is pair trading viable in today’s fast-paced world of quantitative trading? This remains a hot topic among traders. While some classic pairs trading strategies have seen diminishing returns, recent research highlights new opportunities, particularly among ETFs.
A study undertaken by QuantRocket examines the historical out-of-sample/live returns available from pairs of popular and highly-liquid USA ETFs. They boiled the ocean and performed a cointegration test on over 6,000 pairs formed from the 110 ETFs that had over $10 million/day of daily traded volume. They then chose the top five performers and ran them out-of-sample for about four years. Here are the results:
Constituent ETF pairs:
Source: QuantRocket
Their Conclusions for Making ETF Pair Trading Viable
“The aggregate portfolio of pairs performs well in the first two years out of sample, but then performance deteriorates, mirroring the out-of-sample equity curve of GLD/GDX. This may indicate that the out-of-sample lifespan of a well-performing pair is at most two years, implying a need to re-run cointegration tests and in-sample backtests every year or two in order to update the portfolio of best pairs.”
Conclusion: Pairs that cointegrate and perform well in-sample cannot be expected to perform well out-of-sample indefinitely. However, a small period of out-of-sample cointegration lasting a year or two before deterioration sets in may be reasonable to expect. This implies that successful pairs trading requires a robust research pipeline for continually identifying and selecting new pairs to replace old pairs that stop working.”
Source: QuantRocket
Enter Your Secret Weapon for Building a Robust Stock Pair Research Pipeline
This is where PairTrade Finder®’s Ultimate Alpha 3.0 comes into play. Our software provides an unparalleled research pipeline, helping automate the rigorous process of testing tens of thousands of potential pairs for cointegration, backtesting their performance, and identifying the most promising candidates. This process ensures that traders are always equipped with the best pairs to trade.
The Cointegration Augmented Dicky Fuller test for cointegration, combined with in-sample and out-of-sample backtesting, is crucial for maintaining a robust pair trading strategy. Our platform seamlessly integrates these advanced statistical methods, enabling traders to focus on execution rather than the laborious research process.
Moreover, PairTrade Finder®’s Ultimate Alpha 3.0 simplifies the process of monitoring pairs’ performance and re-evaluating them periodically. We even publish for our subscribers our Top USA Stock Pair Stars roughly once per quarter to ensure they always have fresh, high-probability stock pairs in the Watchlist radar to generate pair trading signals. This dynamic approach is essential for adapting to market changes and sustaining profitability.
How About Fully Automating Your Pair Trading?
As importantly, when focusing on execution, Ultimate Alpha 3.0 now offers traders the ability to fully automate trading into Interactive Brokers’ Trader Workstation®, saving hundreds of hours per year. To see a video of our trading integration with Interactive Brokers in action, click here.
So, Is Pair Trading Viable Still?
In conclusion, stock pair trading is still viable and potentially highly profitable when approached with the right tools and methodology. PairTrade Finder®’s Ultimate Alpha 3.0 is the ideal platform for any trader seeking to leverage the power of cointegration-based pair trading strategies. Embrace the future of trading with confidence and precision.
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By harnessing the power of advanced analytics and a robust research pipeline, pair trading can continue to be a profitable strategy in 2024. Ensure you’re equipped with the best tools to navigate this complex landscape with PairTrade Finder®’s Ultimate Alpha 3.0.
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