Monday, October 29, 2012

TLT / XLF Pair Trade - Part III

This is the XLF / TLT pair trade displayed in Market Rewind metrics.  Those of you who have subscriptions to Market Rewind Pro can tweak the model parameters but this version is about as good as it gets.  This program only looks back 6 months whereas our TradeStation models examine a 16 month rolling lookback period.  But here's some confidence building news.. the same settings work in either time frame.  What's important to note is that these trades have a definite this case 5 days.  The impressive results are based on that excursion length and virtually all failed trades can be traced to holding positions too long.

For the technically oriented-----All these pair trades are based on the the z-score, a log ratio examination of the relationship between the current standard deviations of  the pair components. One of the criteria that makes an ideal pair trade is when the thresholds of the z-score reversals are clearly defined.  Using a topographic analysis of all the trades over the past 6 months shows that this is clearly the case with the TLT/XLF trades. In fact, if you apply this type of analysis to most the popular pair trades only a very few will show this type of isolated "sweet spot".