My Friend Made $4,000,000 Trading this Pattern
Monday, February 14, 2011 at 2:35PMOn Thursday, I spent most of the day with a friend/business colleague discussing trading opportunities. I showed him the following chart which displays the SPY-IVV spread. Both ETFs track the S&P 500 index. The spread is highly co-integrated and stable. On average these ETFs don't deviate more than $0.50 from each other. (I want to thank Aris David for his research on this spread).
My friend took the chart, looked at it for a few seconds, and then told me he made $4,000,000 trading similar spreads for his personal account in 2008. I was stunned.
I asked him how he made all this money trading a few spreads. He answered: they wanted liquidity and I provided it to them 24 hours a day during that period.
When securities that more or less track the same thing deviate in price by this much, you are dealing with a liquidity gap. And there is money to be made by traders willing to provide that liquidity.
Click image to enlarge.
Michael Bigger. Follow me on Twitter and StockTwits.
Reader Comments (6)
Isn't the risk here that the spread can widen to a greater degree than anticipated? I'll use as an example what is going on in the oil markets. The spread b/n WTI & Brent has widen to as much as $17+ while it is historically $2-$4. Conceptually I am very interested in these types of trades, but I am trying to understand the risks of spreads widening to historically anomalous ratios (& how to mitigate those risks.) I do enjoy your blog btw.
Regards,
TDL
You can't see exactly what is going on here because there is no granularity to the chart. All you can see is that it was WILD. The point here, is that when things go wild, you can take small spread positions and flip them back and forth at different times of the day.
Michael,
I understand now. I've noticed the fluctuations in the WTI/Brent spread & thought that it was possible to, in effect, day trade the spread. Another question I had when reading about your comments on spread trades was, how do you come up w/ the ratios. Thanks again for commentary, you have a very informative blog.
Regards,
TDL
Michael,
How would one go about trading this pattern/chart? Do you short SPY and long IVV?
JC,
My friend made most of his money trading e-mini Qs against e-mini S&P (spread). Back and forth.
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