As of writing, Boeing and Airbus have a negative correlation of -0.39 based on YTD data. Historically, the correlation between both stocks has been significantly higher, at around 0.80 based over a trailing 10-year period from 2012 to present.
Instruments to use
Investors looking to set up a pairs trade should therefore go long in Boeing and short in Airbus. For the former, buying the ticket should be sufficient. However, gaining short exposure for the latter is a bit more complicated.
Shorting a stock requires the use of portfolio margin. This is risky as margin is subject to borrow rates (which are expected to go up as various central banks initiate interest rate hikes) and the ever-present danger of a margin call should the value of the shorted security suddenly skyrocket.
Investors can also go short via put options. However, this exposes an investor’s capital to theta decay (the rate at which an options premium loses value over time), and implied volatility (IV) crush (the loss in an options premium due to suddenly decreased volatility, typically after earning are released). Options also expire, so a degree of market timing is required which causes additional risk.
A better way of gaining short (or long exposure) is by using Leverage Share’s suite of exchange-traded products, which offer the potential for a higher risk/reward profile via built-in daily three times (3x) resetting leverage.
A hypothetical investor looking to initiate a pairs trade can therefore go long on Boeing with 3x leverage by buying BA3, while going short on Airbus with 3x leverage by buying AIRS.
The final word
Traders interested in deploying a pairs trade strategy for the aforementioned airline stocks can manage their risk exposure using ETPs like BA3 and AIRS.
The physically backed nature of both ETPs ensures good liquidity and a narrow bid-ask spread, allowing you to enter and exit positions easily. Your risk is also capped based on how many shares you hold, making position sizing easy (just buy and sell shares) compared to maintaining margin requirements or calculating options delta exposure.
