It is the type of trading strategy for the traders where they can make profit from any type of market either showing up trend, down trend or sideways movement.
Example: if A And B are 2 different stock of similar sector, so the two companies have shared similar dips and high depending on market.
If A price goes up to a significant amount while B stayed same, A pairs trader would buy B stock and sell A stock assuming that these 2 companies would later return on the same balance point. At both cases traders make money
Pairs trading has the potential to achieve profits through simple and relatively low-risk positions. The pairs trade is market-neutral, meaning the direction of the overall market does not affect its win or loss.
The goal is to match two trading vehicles that are highly correlated, trading one long and the other short when the pairs price ratio diverges "x" number of standard deviations - "x" is optimized using historical data. If the pairs reverts to its mean trend, a profit is made on one or both of the positions.
An Example Using Stocks
The first step in designing a pairs trade is finding two stocks that are highly correlated. Usually that means that the businesses are in the same industry or sub-sector, but not always.
Features of Pair Trading Technique
No or very less impact of market trend either bullish or bearish.
No or very less impact of gap-up or gap-down opening in broader markets.
Technique is back-tested for 3 years and live traded for 8 months in markets.
No more stoploss hitting as no stoploss is needed as it is hedge.
Very effective in place of trading the market with naked position
Basic specifications are as mentioned below: