Qn. 1 / 5

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What is the primary reason for selecting only one variable (spread, differential, or ratio) for pair trading?

"To simplify the trading strategy and avoid conflicting signals."

"To increase the complexity of the analysis and identify more profitable trades."

"To align with industry standards and best practices for pair trading."

"To reduce the computational burden and make the strategy more accessible."

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Why does the author prefer using the ratio as the variable for pair trading?

"The ratio is less volatile than the spread or differential, making it easier to manage risk."

"The ratio reflects the market valuation of the stocks and provides insights into their relative price movements."

"The ratio is a more widely accepted metric in the financial industry, leading to greater transparency."

"The ratio is simpler to calculate and interpret compared to the spread or differential."

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What is the key principle behind identifying pair trading opportunities based on the ratio?

"The ratio is expected to remain constant over time, providing predictable trading opportunities."

"The ratio is expected to fluctuate randomly, creating opportunities for arbitrage."

"The ratio is expected to revert to its mean value after deviating from it, offering potential buy or sell signals."

"The ratio is expected to follow a predetermined trend, allowing traders to anticipate future price movements."

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How does the concept of standard deviation relate to pair trading based on the ratio?

"Standard deviation measures the average value of the ratio, providing a baseline for comparison."

"Standard deviation quantifies the volatility of the ratio, indicating the likelihood of it reverting to the mean."

"Standard deviation determines the optimal time frame for holding a pair trade, maximizing profitability."

"Standard deviation identifies the correlation between the two stocks in the pair, highlighting their interconnectedness."

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What is the purpose of using the density curve in pair trading?

"To predict the future price movements of the two stocks in the pair with high accuracy."

"To identify the historical trends and patterns in the ratio, revealing recurring trading opportunities."

"To determine the optimal entry and exit points for pair trades, minimizing potential losses."

"To estimate the probability of the ratio reverting to its mean, guiding trade decisions based on statistical likelihood."