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HOW
PREDICTABLE
THE WONDERFUL LIFE ON A CRUISE
SHIP CAN BE
- by Darren Clifford
In
a previous article I had written about
trading predictability and how these
leads to profitability.
One
sector that I watch for this is within
the cruise ships: CCL (Carnival
Corporation) and RCL (Royal Caribbean
Cruises).
CCL is the market leader with
the larger market cap and has been
priced higher based on some basic
fundamentals:
|
|
CCL
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RCL
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|
Mkt
Cap
|
43B
|
9B
|
|
P/E
|
20.2
|
17.67
|
|
P/TB
|
3.59
|
1.91
|
|
P/FCF
|
55.76
|
13.76
|
From
the fundamentals I would prefer to be
short CCL and long RCL.
Here
is how the individual charts look,
first CCL:
When
pair trading it is important to look
at the underlying stocks to see if
there is an obvious reason why you
would not enter a trade.
In
this case there are no new highs or
lows being formed by CCL, it is
business as usual.
Business
as usual is a great thing for pair
traders as it lowers the probability
of an extreme event or break out
occurring.
Now
for RCL:
At
this point the symmetry of the charts
should show that we are dealing with a
highly correlated spread.
RCL shows nothing on an
individual basis that would stop us
from buying the stock.
To
be capitally balanced on the spread a
ratio of 0.85 will be used.
This means that for every 100
shares of RCL that is bought, 85
shares of CCL should be shorted.
On
to the good part, here is the spread
chart over the last 65 trading days,
or quarter roughly:
You
can see from this that the spread has
been range bound over the last 65
days.
This creates opportunity for
the short term and long term trader!
Look
how consistently we have been pulling
back off of 0 on the spread number.
This predictability is where
there is the greatest profitability
for traders.
Fundamentally
we have shown that the spread should
be short CCL and long RCL using the
0.85 ratio, now it is just a matter of
watching for a good technical entry. Patience
is important when trading so wait for
some place close to 0 on the spread
number before going short the spread.
Here
are some guidelines that I would use
trading this:
Entry:
Short at 0
Stop:
0.5
Profit Target:
Short Term: -2.5 (Technical
Level)
Long Term:
-15 (Fundamentals)
The
short term profit is just looking at
the previous pull backs of the spread
and where it would be trading.
The
long term profit target is calculating
where CCL would have 140% of the price
to tangible book value (P/TB) of RCL
to bring the spreads fundamentally in
line.
Now
just to watch the trade set up and to
execute well to make sure we have
compounded probabilities: technicals,
fundamentals and your execution. |
