Using Correlated
Stocks as a Leading
Indicator: An Applied
Pair Trading Strategy
Don Bright & Darren Clifford
www.stocktrading.com
www.pairtrader.com
1
What is a correlated stock?
Statistical vs. intuitive
Some stocks show correlation just
because they are both related to
the market, not to each other:
Spurious correlation.
Want stocks that have an intuitive
reason to be correlated.
Same
sector
Similar business models
Work with each other in different
processes.
2
Leaders and Followers
Know your stocks:
Which stock is generally the leader
in the sector?
Which
stock trades more volume?
Any news events to cause
leadership for that day?
3
Quantitative Analysis
Filling in of the opening gap
Average daily ranges
Historical spread movements
Opening only order candidates
4
Pair Charting
65 Day to 10,000 day historical
pair charts.
Spread range and volume charts.
Basic technical indicators.
5
Automated Programs
Charting your profits and losses
Gap indications
Automated enveloping program
Opening only strategy
Pair tracking software
Pair charting software
Automated pair layering execution
6
system.
The Setup
Movement in the lead stock is
generally followed by a movement
in the secondary stock.
Wait for movement in the lead
stock and confirmation of continue
in move and then trade the
secondary stock.
Lead stock rises $0.2 and still
shows signs of buyers: buy the
secondary stock.
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8
The Exit
Reversal in lead stock.
Movement of the secondary to
catch up to the lead stock.
From here, with no sign of more
buyers, direction is random.
PRICE ACTION OF LEAD STOCK
DEFINES ENTRY AND EXIT.
9
Extra’s
Movements off the opens
Pair off instead of capitulating on
the trade.
Benefits of shorting first.
Benefits of buying first.
Compounding probabilities
Thanks for listening in to the Pairs
Trading portion of our discussion.
Don and Darren
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