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Balance

Balance. Convergence & Divergence Tuesday, August 11-09 Bright Trading Meeting By Rob Friesen. Preface. Markets have periods of consolidation and trend. Pairs can be categorized by: Mean reverting Trending Blended characteristics Traders can specialize or mix strategies.

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Balance

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  1. Balance Convergence & Divergence Tuesday, August 11-09 Bright Trading Meeting By Rob Friesen

  2. Preface • Markets have periods of consolidation and trend. • Pairs can be categorized by: • Mean reverting • Trending • Blended characteristics • Traders can specialize or mix strategies. • At very worst…be informed in the various characteristics of pairs

  3. Mean Reverting Pairs • General Characteristics • Same Industry Group • Correlated • Jiggyness • Statistically: • The Average Daily Range is a healthy percentage of the Recent and Medium-Term Range. (refer to LT DR from Spreadhistory: >.12) • Visually: • Many periods of extended consolidation with few multi-day trends. • Oscillation and pattern recognition • Reduced Risk: • Statistically: • 6-month range is relatively small in relationship to the ATR (if the pair has an ATR of 1.50, then a $12.00 6-month range is reasonable but if the ATR was $0.25, then $12.00 is excessive. • Visually: • Minimal Size and Frequency of Price Shocks overnight • Should not exceed 1.5 times ATR

  4. Trading: Mean Reverting Pairs • Observe Trading Range and Oscillations • Observe Time between Peak and Valley and Transitions. • Note: Highly Correlated Pairs can Trend (usually slowly) and become Dislocated (shift) for periods of time. • Observe Standard Deviation from Moving Averages and Previous Closes. • Execution is extremely important. • Refer to Crutch Trading Power Point. Crutch trading performs best using Highly Correlated Pairs • Understand the best times of day to FADE

  5. Money Management • Watch Haircut costs vs. Productivity • Watch Drift of Pair vs. Productivity • Watch Short Stock Interest Premium Charge on Difficult to Borrow Stock • Watch for Shifted Ranges: You may have to lighten your capital to effectively trade the new range. Its always about production and less about investing. • Just as you have to watch for under trading a pair (being an investor), you also have to be careful you do not overtrade a pair that is mean reverting for you. • If you paid for the position going out against you, you owe it to yourself to be patient as its coming in.

  6. Trending Pairs • Main Principle • Relative Strength Trading • Trend Following • General Characteristics • Could be the Same or Different Industry Group • Low or Negative Correlation • Low Darren’s Ratio (<.08) • Large ATR • Visually: • Many days-in-a-row of full ATR moves. Reveals more days of trend then consolidation. • Some Traders Learn to ADD to a winning trade

  7. Trading Trending Pairs • Observe Performance Differences between the stocks that you have paired together. You are looking for Divergence or Convergence at a significant pace. • Extremely Rule Based • Develop criteria from which trades are taken • Watch for engines on the day and on the stocks • Tape Reading can help • Are there more buyers then sellers or more sellers then buyers • Time of Day • The morning session (first two hours) can often be the best for relative strength. Use this time to go with trends.

  8. Money Management • Stay with smaller size. Capital per trade should be at a fraction of Net Liq, not a high multiple of it. The reason is, that you lack market neutrality and have low correlation between your longs and shorts. • Have a parameter for how much you are willing to risk on each trade vs. the profit potential. • Utilize when things are working by possibly adding more. Remember your time of day for this.

  9. Questions • So why not just trade a single stock instead of tracking a trending pair? • Relationship based trading • Can compare the two stocks statistically, fundamentally • Can create a bias • Can observe performance differences and capitalize on those • Some find it easier to watch a spread number then watch a single stock. • We already have much of your analysis done for you through spread history file. Can look back over the short or long sample. • Other stock related strategies can be couple with Trend Trading a Pair

  10. In Closing • It is necessary to evaluate the NATURE of your pairs. • Are they characterized by range bound jiggyness or by trending over the long sample • Make specific plans for each type of pair and trade them according to their nature. • Blend your strategies as market change so you become more flexible, skillful and adaptive. • Implement the Science but also the Art of Trading in order to be constantly consistent

  11. And finally… • Let’s remain: • Persistently Passionate • Constantly Courageous • Ready and Refreshed • Definitely Disciplined • Creative and Conquering • Immensely Inspired • Purposefully Productive • You are all “Bright” Traders and You can DO IT !

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