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I don't think the method is sound. You should look into finance literature on the topic, maybe something about diversification.

PaulHoule 5y ago
It's pretty notorious for not working. With few exceptions, all stocks are correlated to the broad market. https://en.wikipedia.org/wiki/Beta_(finance) https://en.wikipedia.org/wiki/Beta_(finance) One explanation that would be popular right now is that the price of stocks can be calculated based on expected future cash flows and interest rates (e.g. think of what you'd pay for a bond that produces the same csh flow.) Since the interest rate is a factor in that calculation for all stocks, there's a correlation right there. The exceptions tend to be sketchy. At one time it was thought that gold mining stocks would move against the market, but what I heard was that gold mining firms are badly run and if you like gold you should just buy gold.
- thom 5y ago
  People still do pair trading though, right?
  - PaulHoule 5y ago
    That's kinda the opposite of what that site is advocating since in pair trading you are going long one and short the other. https://en.wikipedia.org/wiki/Pairs_trade https://en.wikipedia.org/wiki/Pairs_trade The most famous pair trade was this: in the morning of a trading day you buy the stocks that performed the worst yesterday and short the ones that performed the best. Because the market reverts to the mean, this strategy made money hand over fist from the 1980s when Morgan Stanley started using it until the summer of 2007 when somebody fat fingered a button, unwinded their position during the day, and crashed everybody else who was in this trade. The profitability of that trade went downhill long before that crash but since then it's been impossible to make money doing it. (When there's a hedge fund bubble the profitability of a trade drops gradually as more people pile into it and the market inefficiency it targets is dispelled, quite different from an equity bubble which goes up dramatically until...)
    - thom 5y ago
      I just assumed you could use the correlations the site was suggesting to find diversions between stocks that we’d assume might revert to the mean.

PaulHoule 5y ago

It's pretty notorious for not working. With few exceptions, all stocks are correlated to the broad market. https://en.wikipedia.org/wiki/Beta_(finance) https://en.wikipedia.org/wiki/Beta_(finance) One explanation that would be popular right now is that the price of stocks can be calculated based on expected future cash flows and interest rates (e.g. think of what you'd pay for a bond that produces the same csh flow.) Since the interest rate is a factor in that calculation for all stocks, there's a correlation right there. The exceptions tend to be sketchy. At one time it was thought that gold mining stocks would move against the market, but what I heard was that gold mining firms are badly run and if you like gold you should just buy gold.

thom 5y ago
People still do pair trading though, right?
- PaulHoule 5y ago
  That's kinda the opposite of what that site is advocating since in pair trading you are going long one and short the other. https://en.wikipedia.org/wiki/Pairs_trade https://en.wikipedia.org/wiki/Pairs_trade The most famous pair trade was this: in the morning of a trading day you buy the stocks that performed the worst yesterday and short the ones that performed the best. Because the market reverts to the mean, this strategy made money hand over fist from the 1980s when Morgan Stanley started using it until the summer of 2007 when somebody fat fingered a button, unwinded their position during the day, and crashed everybody else who was in this trade. The profitability of that trade went downhill long before that crash but since then it's been impossible to make money doing it. (When there's a hedge fund bubble the profitability of a trade drops gradually as more people pile into it and the market inefficiency it targets is dispelled, quite different from an equity bubble which goes up dramatically until...)
  - thom 5y ago
    I just assumed you could use the correlations the site was suggesting to find diversions between stocks that we’d assume might revert to the mean.