Pairs trade with options
Pairs trading, as the name suggests, pairs two separate option plays on two different underlying securities in the same sector.
Pairs trading offers limited risk and multiple ways to profit, and can provide an indirect way to hedge a directional play or guard against a sector's unexpected head- or tailwinds. Below, Schaeffer's Senior Equity Analyst Joe Bell, CMT, explains the advantages and disadvantages of this options strategy, and tips for establishing a winning pairs trade.
Pairs Trade
The main benefit of pairs trading is that you have three major ways of winning on the trade:. A key disadvantage is that you are opening two trades at the same time, so generally premiums will be higher than simply buying a directional call or put without a pair. In addition, this trade relies on volatility and a directional move by one or both of the underlying stocks.
Best Practices for Pairs Trading - Schaeffer's Investment Research
If volatility suppresses or both stocks trade sideways, you could lose on both legs as the time premium decays and both the call and put are sitting at losses. A pairs trade is appropriate when you believe that one stock is going to outperform or underperform another stock within a given time frame.
The use of two stocks within the same sector also offers the opportunity to be hedged by a major move in the underlying sector that may affect both equities. Once you have identified two stocks, we like to pair them by utilizing call and put options that have similar deltas. We also like to play month options or slightly longer-dated options, because these type of relative-strength bets tend to take a little longer to play out, especially considering that you are paying for time premium on two options.
You can utilize the same indicators and tools that you would use for directional option buying. We target underperforming equities by looking for stocks that have lagged their peers, have a poor technical and fundamental outlook, yet remain in the favor of Wall Street analysts and the broader investment community. Any sector can potentially be ripe for pairs trading.
The key is to identify stocks that have some correlation to each other and are in the same industry or sector, so that if the broader sector makes a large directional move, you will get exposure to it regardless of direction. On the other hand, option premiums are at some of their lowest levels in years.
These low premiums make it much more affordable when you are purchasing two options on two different stocks. This can really help boost leverage if we experience volatility in excess of what is currently being priced in.
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How to trade options online with pairs trading
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Take Back Control of Your Retirement With These Strategies. Save Money and Stress By Trading Options Instead of Stocks. MY ACCOUNT CONTACT US SEARCH. ABOUT US NEWS AND ANALYSIS TRADING SERVICES OPTIONS EDUCATION BROKER CENTER 30 FREE TRADES. This options strategy offers flexibility, leverage, and limited risk.
Les options paires - Stockpair
Stocks quoted in this article: What are the benefits and setbacks of pairs trading? The main benefit of pairs trading is that you have three major ways of winning on the trade: You can have the call and put position become profitable and win on both legs of the trade.
The stock that you have a call on could outperform the stock you have a put on, and the relative outperformance could lead to the overall profitability of the pairs trade. The last scenario really highlights the benefits of using options and the leverage they bring to the table. The leverage of these options presents this great opportunity. What makes pairs trading unique from a different hedging strategy?
What are some best practices when it comes to pairs trading? Are their certain sectors that are more ripe for pairs trading? What do you see in the next few months that might be a good fit for pairs trading? Can you think of any recent examples of a successful pairs trade? Welcome to Schaeffer's Investment Research!
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