How do you come up with pair trades in L/S?
How do you play relative value?
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Company X sells widgets to the US. Company Y sells same widgets to Europe. You think widget demand in the US is going to be much higher than Europe and the market hasn’t figured this out so you’re long Company X, short Y.
The reality however is yolo long NVDA, short legacy crappy tech and ride the wave.
Say you discovered a trend / theme about to play out, you long the name that has the least exposure to it, and short the name potentially will be fked over by the theme.
You basically don’t. Took years to learn this for me. It’s hard enough to come up with a decent long thesis, let alone figure out exactly how it’s gonna pair with a short and then time both correctly. It’s not for me at least. Maybe a patent litigation situation like LQDA/UTHR once a year at most
if pairs / mkt neutral trading didn't work, pod shops wouldn't exist...
Allocator here. Having seen tons of track records on a monthly basis (and continuing to do so) most shops shouldn’t exist based on their track. Shame on LPs (my counterparts and me). Expanding long/short equity for a bunch of pod shops is just an easy way to soak up excess capital that we shower upon funds, especially the pods. Often it’s dilutive to returns, but once you lock up capital or convince LPs, they rarely pull their capital for years (or ever) unless the sh** hits the fan.
People across this business (financial services) generally are not geniuses or original in any way especially in public markets since anything really unique that works is sniffed out and copied quickly. This is not to say people aren’t gifted or smart by any means, however…
OP- good question. Keep up the curiosity. IMO it’s what this board is for.
Retail monkey aka me used to combine Nasdaq (long) with Dax (German index, short) some years ago. Quite often you saw Nasdaq rising and Dax followed, if “weakness” in Nasdaq, Dax suffered as well
Was not really based upon model or so, just monkey see monkey do
I find pair trades come from an understanding of certain sectors and how the companies within them compete against each other or how their strategies may differ.
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For example if you look at the publicly traded exchange companies (NDAQ, ICE, CME, et al) they're viewed as a group but there is a lot of dispersion in the paths and strategies they're pursuing (which means forward returns will be driven by different catalysts). Over the last few years ICE has increased their exposure to the US housing market meanwhile NDAQ has increased their exposure to software being sold into financial institutions. Maybe you think existing home sales are going to spike which would be positive for ICE and you could use its as a long against one of the less attractive exchanges. Maybe you think IT budgets at financial institutions are gong to be pressured which would be negative for NDAQ and you could use it as a short against one of the more attractive exchanges.
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Identify the different exposures within a peer group so you can decide if any are exploitable
GLP1 for example. I’m gonna make this very short (time constrained)
People will lose weight + crazy demand for these drugs. Long GLP.
Most of orthopedic hips and knees are a function of excess weight as opposed to autoimmune conditions. People lose weight —> less wear and tear on their body. short ortho
Very much simplified
This is extremely dangerous because you’re doubling down on both sides of the trade and the shorts will blow your head out of the water when the theme goes wrong way even for a short time frame
Interesting okay… idk that was just off the top of the dome as an example.
Monkey find good stock. Monkey find bad stock. Monkey buy good stock. Monkey short bad stock.
Instead of betting on themes to play out, why don’t you just pair trade two companies in the same industry that are having vastly different performance/one is nailing KPIs one isn’t.
Think like long Costco short Big Lots over the last year or long Chipotle short Chuy’s or Papa John’s.
Studying financial performances of these companies and purchasing companies with the possibility of earnings growth/multiple expansion and shorting overpriced or struggling enterprises seems a bit more controllable than trying to predict macro themes which may play out in 3 months, 9 months, or never play out as you’d expect.
This got SBd? What youre talking about is massively tilting Quality/Crowded Longs against Crowded Shorts with very high days to cover. Easy way to get fired quickly.
Ok take something that's not an obvious short and then instead pair a great long with a more mature, steady business that you're expecting to not perform as well as the long. I'm thinking a mature company like Coke or Ford that can be hedged against a faster grower like Domino's or Stellantis.
what are some successful historical pairs trades? everyone knows the great activist wins or tiger cub longs, but not pairs trades
Long MSFT / Short IBM
Long AMZN / Short traditional retail
these were career making trades that worked until rates environment changed couple years back
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