Iris
Investopedia explains “Pairs Trade”
It's the ultimate strategy for stock pickers, because stock
picking is all that counts. What the actual market does won't
matter (much). If the market or the sector moves in one
direction or the other, the gain on the long stock is offset by a
loss on the short.
Wikipedia explains “Pairs trade”
The pairs trade or pair trading is a market neutral trading strategy
enabling traders to profit from virtually any market conditions:
uptrend, downtrend, or sideways movement. This strategy is
categorized as a statistical arbitrage and convergence
trading strategy. The pair trading was pioneered by Gerry
Bamberger and later led by Nunzio Tartaglia’s quantitative group
at Morgan Stanley in the 1980s
Definition of “Pairs Trade”
The strategy of matching a long position with a short position in
two stocks of the same sector. This creates a hedge against the
sector and the overall market that the two stocks are in. The
hedge created is essentially a bet that you are placing on the
two stocks; the stock you are long in versus the stock you are
short in.
Wikipedia explains “Pairs trade”
Market neutrality
The pairs trade helps to hedge sector- and market-risk. For example, if the
whole market crashes, and the two stocks plummet along with it, the trade
should result in a gain on the short position and a negating loss on the long
position, leaving the profit close to zero in spite of the large move.
Benefits of Pairs Trading
Wikipedia explains “Pairs trade”
Today, pairs trading is often conducted using algorithmic
trading strategies on an Execution Management System. These
strategies are typically built around models that define the spread
based on historical data mining and analysis. The algorithm
monitors for deviations in price, automatically buying and selling
to capitalize on market inefficiencies. The advantage in terms of
reaction time allows traders to take advantage of tighter spreads.
Iris
Iris
Iris is a pairs trading platform with 100% automation
capability. Using advanced algorithms, Iris is able to manage
an entire portfolio by deciphering patterns in correlated
instruments based upon pre-defined quantitative factors.
Iris has the capability of managing/monitoring
thousands of pairs simultaneously, advanced
execution technology, and an extremely customizable
entry/exit system over 20 levels.
Iris executes in the most cost effective manner using our
smart routing algorithm, which reduces the total execution
costs by up to 50% (from standard route out), yet still fills
both sides of the pair immediately.
Iris utilizes Takion Technologies’ robust execution engine for all order
flow. Any time a pair triggers an entry or an exit it is executed in a
matter of milliseconds. By having access to such technology, Iris users
have a significant advantage over competition in capturing the most
ideal fill prices. Even if a delay in data should arise, Iris continuously
rechecks all prices before executing to validate every order.
Iris uses a proprietary standard deviation calculation that measures the
divergence from the mean price relationship between the two paired
stocks, resulting in the standard deviation value. By using the standard
deviation measurement the volatility for each pair is treated uniquely. It is
extremely important to standardize each pair's volatility when using a
black box algorithm such as Iris, because the system is executing each
trade based on predefined standard deviation levels generalized for all
pairs. Another benefit to using the standard deviation measurement is the
time value effect. Over time the standard deviation will fall even if the
stock prices have not converged due to such effect, which will force a
non-profitable pair to close. The capital can then be redeployed to
potentially more profitable opportunities.
Dividend Adjustments
Iris is aware of all dividends affecting any open or potential
position and adjusts the stock price accordingly. If a user is in a
pair overnight and one of the symbols pays a dividend, Iris will
automatically recalculate the STD, so the correct and accurate
value is used. Also, Iris automatically adjusts the PnL for
dividends. Most trading platforms do not adjust for dividends in
all markets – NYSE, Nasdaq, AMEX — Iris does.
The Iris Process
1. User Inputs Entry & Exit Standard
Deviation Criteria and Dollar
Allocation % for Each Level.
2. All Pairs are Displayed and Monitored
in Candidate Pairs Window for Potential
Entries.
6. The Pair Exits All Levels Based on
User-defined Exit Criteria and ReEnters Candidate Pair Window Based
On Initial Criteria.
3. A Pair Reaches its User-defined
Entry Standard Deviation Threshold and
Either Auto Enters or Alerts the Trader
to Enter.
5. The Pair Reaches it’s User-defined
Exit Standard Deviation Threshold and
Either Auto Exits or Alerts the Trader to
Exit.
Iris
4. The Entered Pair Moves to the
Open Positions Window and is
Tracked for Additional Level Entries
and Exits.
Iris
Connect/Disconnect button
By clicking connect you will connect to our servers. By clicking
disconnect you will disconnect from the servers.
Windows
Here you can open Iris windows by clicking on the corresponding
button.
Layout
Restore your previous layout, save your layout, or have the option
of saving your layout on exit.
Exit All Positions
By clicking this you will liquidate all open positions immediately.
Auto Enter / Auto Exit buttons
When both Auto Enter and Auto Exit are unchecked you will be in
“manual mode”.
When one of the boxes is clicked, it will highlight and you will be
in “graybox mode”.
With both the boxes clicked and highlighted, you will be in
“blackbox mode”.
Rebalance
Rebalance your entire portfolio as a % or a dollar value up or down with
a click of a mouse. Specify the amount you would like to rebalance in
the amount field.
Audible Alerts
If ON, when a trade enters or is ready to enter Iris will ‘ding’.
Desktop Alerts
If ON, a desktop alert will pop up when a new entry or exit level is
available or when a level is
automatically executed.
Highlight Entries/Exits
If ON, the order executed will highlight for the period of ‘Highlight
Delay’ to catch your eye
Highlight delay
The number of seconds you want the order executed to
highlight.
Highlight RSI
Highlights pairs with an RSI value > or < the set value
Hide count rejects
IF YES, Iris will not display potential pairs in the Candidate
window if one of the symbols already has greater than the Max
Pair per Symbol setting.
Auto Exit pairs
Here you will set the number of days to automatically exit pairs if
the PnL is NEG or POS, as well as your maximum STD stop loss
exit.
Email on disconnect
If Iris is not manually disconnected from the server by the user
(usually due to a communication problem over the internet), an
email will be sent to alert the user.
Profit & Loss Summary window
Marked PnL
Open PnL
Closed PnL
Profit & Loss Summary window
Intraday %
Total exposure
Long exposure
Short exposure
Profit & Loss Summary window
Volume traded
Open pairs
Monitored pairs
LIST WINDOW
Favorite Pairs
Enter the pairs you want to monitor in this field and
click update. Both symbols must be on same line with
white space (tab / one or more spaces) between
them. Example: LOW HD
Omit Symbols and/or Pairs
Enter the symbol or pairs you with to omit from
trading in this field and click update. You can also add
notes here (such as “Earnings 2-24”), which will be
ignored.
Manual Mode Trading
Enter Level and Enter Pair
When you click on the single + it will enter 1 level of the pair,
the +++ will enter you into all of the queued levels.
Pair Column
This shows the current pairs you are watching,
the stock in red will be sold short and the green
stock will be purchased long.
STD
This shows the current standard deviation of
that pair.
Current Level
The level of standard deviation that this pair is
currently at based on your entry curve
Volatility
The higher this number the lower the volatility of
the pair. (Proprietary calculation).
Cost to Enter
The amount of capital needed to enter the next
entry (may be multiple queued levels)
Last Price
Displays the last print of the stocks in that pair.
Closing Price
Displays yesterday’s closing price
RSI
Relative strength index for each stock
Price Ratio
Divides the lower priced stock by the higher
priced stock and displays the value.
Subsector
Shows the sector that your stocks are in.
Categorization is from ICB internationally
recognized database. Stocks around the
world are uniformly categorized into each
category (this will be beneficial when we
can trade international
STD Lookback (Days)
This is the amount of historical days used to calculate the spread for
your pairs.
Max Pairs per Symbol
This limits the amount of pairs that you can have matched up to any
one symbol. I.e., if you have 25 stocks matched up to SPY and you
have this set to 5, then it will only enter positions in the first 5 pairs
that meet the rest of your criteria.
Max Value per Pair ($)
This is the total dollar amount that is allocated per pair if that pair
gets into all 20 levels.
Est. Ticket Cost ($)
Your commission cost per 1000 shares traded.
Auto Enter Candidates
Set this to YES and it will auto enter candidate pairs and
open pairs. When set to NO, it will only automatically enter
new levels in open pairs.
Trading Method
‘Standard’ will enter your trades when the spread hits
each STD level trigger. Aggregate will only enter the
trade when the pair crosses your STD trigger and
reaches your buffer level – then converges back that
amount. You will always enter at your “trigger STD” or
better and can queue up multiple levels for entry for
further price improvement.
Trigger buffers
The pairs go past the level by the Buffer Entry
amount and then when they come back to the
level it will enter the trade. For exits, the pair
needs to go past the Current Exit by the
Buffer Exit amount, and then when it diverges
back to the STD exit level trigger you will exit
the level (and the queued levels).
Entry STD
Enter the starting value of your standard deviation in
the Start box. In the increment box enter the amount
you want each level to increase by.
Exit STD
This is the amount that the pairs will have to come
together for the program to be set to take a profit.
This amount is equal to the current entry level minus
the amount you put in the Diff box.
Allocation
In the first box under the Allocation column, enter the
amount in percent of the Max Value per Pair that you
want the program to enter per level. For
convenience, if you enter ‘5’ and click on Copy Level
1, it will enter 5% at each level.
Pair Detail window
By double clicking on
any pair you can
display it in the pair
detail window
Open levels
The level breakdown of
the pair current open
levels of the pair
Closed levels
The level breakdown
for the levels closed for
the pair
WITHIN THE WINDOWS
By Right clicking on the pair you can:
- View pair in detail window
- Omit a pair
- Omit only the long or short symbol
- Look up long or short symbol in Yahoo finance
WITHIN THE WINDOWS
By right clicking on a column header you can:
- Choose new columns / hide columns
- Sort column by ascending or descending
- Easy to view columns by using Best fit
Iris
Pairing Stocks
It may be a good idea to start by pairing stocks within the same Sector
Basic Materials
Consumer Goods
Financial
Healthcare
Industrial Goods
Technology
Utilities
Defensive
Transportation
Energy
Consumer Cyclical
Communication
Recommend not
pairing
Biotech’s
Pharmaceuticals
ADRs with non ADRs
Volatile pairs
American depositary receipt (ADR)
a negotiable security that represents the underlying
securities of a non-US company that trades in the US
financial markets.
Price Ratio
Should have minimum price ratio of .10. It's probably not
a good idea to pair a $5 stock with a $100 stock,
resulting in .05 price ratio
Picking stocks to pair up
Avg volume should be 500k or more
Picking stocks to pair up
It’s a good idea to trade stocks that have
positive EPS both historically and expected
You may notice increased volatility during
Options X
Earnings season
End of the quarter
End of the year
Pair Spread
The percentage spread between the two stocks
should not spread more than 20% Max on a 1, 3, 6
month chart “CB ACGL example below”
CB ACGL
Example of a good pair
CB ACGL
Example of a good pair
UDR EQR
Example of a good pair
UDR EQR
Example of a good pair
TSLA F
Example of a bad pair
TSLA F
Example of a bad pair
SCHW ETFC
Example of a bad pair
SCHW ETFC
Example of a bad pair
Omitting Stocks
Upgrades, Downgrades, Any Material News
Stocks with upgrades, downgrades, and any other material news should
probably be omitted for a few days allowing the news to subside.
Omitting Stocks
Takeovers/Buyouts
These stocks should be permanently omitted.
Omitting Stocks
Earnings
Approximately a week prior to a company's earnings release, it is
suggested to omit the symbol and keep it omitted for several days after
as earnings are statistically unreliable.
Iris Proprietary Volatility Calculation
The lower the volatility value the more volatile the pair is. It’s up to
the user but we recommend omitting pairs with a volatility value
less than 15
Iris
Picking Pairs
The Pair Matcher
Methodology for picking pairs.
Things to look for
• Highly correlated and co-integrated.
• Above 500k a day in volume.
• In the same industry and sector/sub-sector.
• Ratio less then 5 to 1.
Things to stay away from
• Speculative, i.e. biotech
• Low volume.
• ADR’s to US stocks.
• Cross sector pairing.
• Volatile sectors.
The Pair Matcher
How I picked the sectors
1. Average volume above 500k
2. Previous close between 10 and 250
The Pair Matcher
Tools to find my pairs
The Pair Matcher
Yahoo Finance
The Pair Matcher
The Pair Matcher
The Pair Matcher
Reasons for the pair matcher
• Building the spreadsheet, and using yahoo is very time consuming
• I was spending over 40 hours a week picking my list and pairs
• I found myself duplicating pairs when I would type them into yahoo
• Keeping things organized was very tedious
• So the idea of building a program that would save time came to me
• I wanted to review a pairs list in a matter of minutes instead of hours
• I wanted to see the 4 time frames in 1 window
• I needed the ability to quickly look at all pair combinations
• I also needed the ability to filter the results and sort them
• The best thing though is the ability to constantly review my pairs list
in a timely manner
The Pair Matcher
What a bad pair looks like.
The Pair Matcher
What a bad pair looks like.
The Pair Matcher
Example of a highly correlated pair that has
a low probability of making money.
The Pair Matcher
Example of a highly correlated pair that has
a low probability of making money.
The Pair Matcher
Example of a pair that crosses multiple times.
The Pair Matcher
Not 100% correlated but highly co-integrated.
The Pair Matcher
What a good pair looks like.
The Pair Matcher
What a good pair looks like.
The Pair Matcher
Summary
• Pairs need to be correlated but not too correlated.
• Co-integration is key.
• Related, i.e. same sector.
• Enough volume to support your trades.
• Pairs fall in and out of favor, so you need to check them weekly/monthly.
• No speculative stocks.
The Pair Matcher
Live Demonstration
Sectors spreadsheet
Finance.yahoo.com
www.pairmatcher.com
The Pair Matcher
The Pair Matcher