Daily Commentary - Posted on Tuesday, August 17, 2010, 1:09 PM GMT +1

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Aug Tuesday 17

XLE vs. XLU on August 17, 2010

On a Twitter update on Monday, August 16 (see the Twitter Feed box on the right), I alluded to a favorable pairs trading (buying) opportunity in XLE (Energy Select Sector SPDR) vs. XLU (Utilities Select Sector SPDR), meaning long XLE and selling short XLU in equal money amounts, targeting a higher close the next day (out-performance of the XLE in comparison to the XLU on close  – or during the session – of Tuesday, August 17). The opportunity might still arise at or shortly after the open on Tuesday’s session.

Below you’ll find the reason why.

Table I below shows the performance metrics (since 01/01/2002) for a pairs trade XLE (Energy Select Sector SPDR) vs. XLU (Utilities Select Sector SPDR), assumed one would’ve bought the pair (is equivalent to buying the first and selling short the second ETF in equal money amounts (number of shares in each ETF = 100% net asset value / share price)) on close of a session when

  • Strat. #1: XLE closed lower on five consecutive sessions,
  • Strat. #2: the pairs’s (the ratio of the ETF’s closing prices) Bollinger Bands %B with 4-days EMA and 1 standard deviation closed below -0.70 ,
  • Strat. #3: XLE closed lower on five consecutive sessions and under-performed the XLU on those five consecutive sessions as well,
  • Strat. #4: XLE closed lower on five consecutive sessions , and the 4-day CCI (Commodity Channel Index) of the pair (the ratio of the ETF’s closing prices) closed below -100.

XLE vs. XLU (Benchmark) represents a buy-and-hold approach (assumed one would always be long the XLE and short the XLU in equal money amounts).

Especially setup #3 and #4 offer excellent odds (probabilities of a winning trade greater than 75%, and a superior median winning trade of gt. +1.20% in comparison to a median losing trade of -0.36%). The only shortcoming is the fact that the number of occurrences (especially with respect to setups #3 and #4) is way too small to read anything statistically significant into it, but nonetheless worth mentioning.

Successful trading,
Frank

Disclaimer: Long XLE and short XLU at time of writing.

Remarks: Due to their conceptual scope – and if not explicitely stated otherwise , all models/setups/strategies do not account for slippage, fees and transaction costs, do not account for return on cash, do not use position sizing (e.g. Kelly, optimal f) – they’re always ‘all in, do not use leverage (e.g. leveraged ETFs) but a marginable account is mandatory , do not utilize any kind of abnormal market filter (e.g. during market phases with extremely elevated volatility) , do not use intraday buy/sell stops (end-of-day prices only), and models/setups/strategies are not ‘adaptive‘ (do not adjust to the ongoing changes in market conditions like bull and bear markets).

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The information on this site is provided for statistical and informational purposes only. Nothing herein should be interpreted or regarded as personalized investment advice or to state or imply that past results are an indication of future performance. The author of this website is not a licensed financial advisor and will not accept liability for any loss or damage, including without limitation to, any loss of profit, which may arise directly or indirectly from use of or reliance on the content of this website(s). Under no circumstances does this information represent an advice or recommendation to buy, sell or hold any security.

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