Saturday, September 05, 2009

DIG FAS - Part 2

Hare are two further observations regarding Friday's DIG FAS pair trade.
Above . . after whining to Jeff that I felt the trade distribution was a vital metric, he provided me with a beta version of REWIND +, an enhanced platform designed specifically for pairs trading.
As expressed on Friday, my concern was the max daily drawdown because I hate drawdowns and gauge the value of a trading system more on the ability to minimize drawdown than the ability to maximize gains. . . that's just me.
The chart is run out (or back) 153 trading days and displays the incremental % gain or loss for each day. These are not trades, just a reflection of how the equity curve is developing on a day to day basis. Out of 150 days the pair produces 5 outlier losers in the -10 to -15% category and 2 outlier losers in the -15 to -20% category. IMHO these are respectable results for a 153 day time frame.

To get a further sense of what's going on with this pair's equity curve I've expanded the P&L chart from the original post and high lighted in red and green the crossovers of the R2 (squared) line and the P&L line.
The best P&L gains are clearly made when the P&L line rides above the R2 while marginal or negative returns are realized when the P&L rides below the R2.
Keep in mind that one of my ongoing goals is smoothing the equity curve through systematic risk management. What this metric suggests is that the pairs model can be improved with a rather simple timing model . . . and, if we examine a larger universe of pairs as part of a pairs portfolio, capital can be culled out of sub par ETFs and rotated into pairs that are "performing" above the R2 line (or other trending metric).
As a followup to yesterday's archived post, I'm adding this archive to help traders who might be otherwise inclined, to reign in those hormones.

8 comments:

David Varadi said...

excellent post bzb-all very critical concerns in the real world.......my thoughts exactly on the equity curve rotation. gradual withdrawal of funds using a more smoothed version of the equity curve based on zones (think green, yellow, red) might allow for less whipsaws as the out of sample equity curves will never be that smooth.

bampairtrading said...

Thanks for your post bzb. Using 60 minute data on FAS/DIG pair in Tradestation, we confirmed the following profitable results using our bampairtrading strategy. The net profit potential was $1249 trading buying 1000 shares of FAS while shorting 1000 shares of DIG. Entered position at 11:30am EST and exited at 4:00pm EST.

Hegyi G√°bor said...

Nice posts on pair trading bzb! Thanks! I am waiting for more of your comments. You may be interested David's post about running rsi2 on the pair's ratio. (http://cssanalytics.wordpress.com/2009/07/30/new-strategy-and-trade-of-the-day/)

@bampairtrading: You mentioned same number of shares. While trading pairs I would go for the same amount of $ instead of the same number.

bzbtrader said...

Bam,
Was that trade based on the real-time REWIND signal or an algorithm you have set up to run on TradeStation? If your signal, care to share any info so as to compare with REWIND parameters?

bzbtrader said...

Bam,
OK, I retract that earlier post as I was just informed you have your own site and TS pairtrading product. Sorry.

bampairtrading said...

thx for the interesting pair idea bzb. the settings just use standard deviation bands with some small tweak. like your REWIND model though. more than one way to skin a cat :)

Robert said...

In this post, and others, you've talked about avoiding pairs trades when the P&L is below the R2 line.

I have a couple of questions re this:
1. Is this something you eyeball or a rule that you'd faithfully apply that says IF P&L > R2_line THEN take trade ELSE dont
2. What's your primary objective for this? Reducing losing trades, minimizing reduce drawdowns possibly at the expense of greater profit (as you've said is your personal preference), something else?
3. Have you done any objective studies that this is effective in your reaching your #2 objective (above) or is this a gut feel kinda thing?

Thanks,
Robert

bzbtrader said...

Robert,
1.Subsequent to this posting and after further testing I use this as a hard and fast rule.
2. Primary objective is to avoid low probability trades.
3. Jeff and I have done extensive modelling and backtesting to comfirm that this tactic definitiely reduces the drawdowns. In coming months we hope to make a comprehensive TradeStation based pairs trading model available (for a fee) that will include a number of risk management tools including the R2 trailing stop.