Pairs Trading Execution

Pairs trading is a market-neutral statistical arbitrage strategy. You identify two correlated securities (e.g., Coke and Pepsi, Exxon and Chevron) trading at unusual relative valuations. Short the overvalued one. Long the undervalued one. Bet on convergence. If both rise/fall together but by different amounts, the pair still profits. Example: Coke and Pepsi historically move together (correlation 0.95). Coke jumps +5% on earnings surprise; Pepsi doesn't. You buy Pepsi, short Coke. Wait for convergence. Pepsi rallies to match Coke, or Coke falls back to Pepsi. Either way, pair profits.