Pair trading is a trading strategy that combines long and short positions in a pair of two highly correlated instruments: stocks, futures, commodities, currencies or options. A characteristic feature of pair deals is that they are practically not affected by the general market trend. The reason for this is that when using this type of trading strategy, traders open a long trade in one asset and short in another, thus making the aggregate position market-neutral. That is why paire trading is also called a market-neutral trading strategy.
Let’s consider the main advantages and disadvantages of the pair trading strategy:
In any market conditions. The yield of the pair trading does not depend on the direction of the market movement, but is determined only by the price ratio between the two instruments: shares / commodities / currencies. Whereas in other trading strategies, the direction of the market is the main factor determining the outcome of the transaction, for the bargains the direction of the market does not matter – only the assets that are part of the pair determine the outcome of each transaction. This is one of the most attractive features of the pair trading.