FPI - Fractional Product Inefficiency: The Impeccable Hedge

NeoTicker indicators

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silverpike
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Re: Taking Advantage of FPI

Postby silverpike » Sat Oct 14, 2006 12:20 pm

apfx wrote:It results that the following trades combination:
1. Buy EURJPY, Sell, EURUSD, Sell USDJPY
and
2. Sell EURJPY, Buy, EURUSD, Buy, USDJPY
produced profit when entering the market with FPI <0 and exiting with FPI >0 but not in equal amount.

Double check your math. I believe they should both come out to the same profit, assuming spreads are equal.

2. Since the FPI <> 0 shows that the market is inefficient there must be a way take advantage of FPI>0 too. How come no matter how we combined trades it produced loss?

As I pointed out above, I don't think this is possible. This is because of what the FPI number represents.

FPI can be viewed as a discount/premium accross a group of currencies. A number <1 represents a discount, and >1 represents a premium. If FPI is >1, one or more pairs are trading above fair value, and either buying or selling will not produce a profit. Whenever there is a premium on one or more pairs, something is overvalued, and going long/short will lose money.

However, selling at a premium is the goal. "Buying" when the group is at a maximum discount and "selling" the group at the maximum premium is the name of this game.

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goldux
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Postby goldux » Sat Oct 14, 2006 12:22 pm

Hi apfx,
You attached picture and it seems to me like FPI indicator for Metatrader platform. Where did you get it? I was looking for it all the time and nothing. You are my last hope. Could you please attached this indicator for metatrader on this forum or send it to my email address: petermacel@zoznam.sk and I will do backtest and more research on this strategy FPI.
Thank you
Peter

apfx
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Postby apfx » Sat Oct 14, 2006 1:21 pm

Hi Silverpike,
I doublechecked my math and it still shows difference.
maybe there is still smth wrong that I'm not being able to catch.

Hi goldux,
Unfortunately I do not have FPI in mq4 . I have it in Amibroker (AFL) but if It can help the formula for the ring (EURJPY, EURUSD, USDJPY) that i use is :
FPI = 1/EURJPY * EURUSD* USDJPY (bid quotes)
Attachments
FPI Trades.xls
(17.5 KiB) Downloaded 497 times

goldux
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FPI indicator

Postby goldux » Sat Oct 14, 2006 1:49 pm

Hi apfx,
thank you for reply. Could you please attach your .afl indicator, I downloaded Amibroker already and maybe if I have your AFL indicator I can develop faster the one for Metatrader.
Thanks and check your Excel sheet, there is one more mistake:
EUR/USD sell 1.2533 and it should be 1.2553. Then this ring will be profitable too with profit 35.72$
Please, attach .afl indicator, thank you

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Gert Frobe
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Postby Gert Frobe » Sat Oct 14, 2006 2:54 pm

Hi apfx & goldux, first thank you, apfx for converting FPI into AFL. second, goldux when you have coverted the FPI to MQ4 would you please post it here on kreslik.com.

it will be cool to see how it works w/ the numbers from a fixed spread broker. therefore, it will work even better using EFX Group w/ tight spreads.

thanks -ben

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apfx
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FPI in AFL

Postby apfx » Sat Oct 14, 2006 5:04 pm

// Fractional Product Inefficiency in AFL

GraphXSpace=10;

a = Foreign("EURUSD","C");
b = Foreign("USDJPY","C");
d = 1/ Foreign("EURJPY","C");

FPI = a*b*d;

Plot(fpi, "", colorGrey50);


Title = "Fractional Product Inefficiency: " + "EURJPY , EURUSD, USDJPY" + "\n"+
"Selected value: " + SelectedValue(FPI);

aspTrader
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Re: IMPECCABLE!!

Postby aspTrader » Sat Oct 14, 2006 7:06 pm

FemmeFX wrote:What appears to be crucial to the strategy is that all trades open at the same time, in order to catch the optimum inefficiency and be in that "Impeccable Hedge." (Great name, by the way.) If the opening does not go well, then there's less opportunity to profit from the trades. I imagine you could possibly still benefit if that happens, but you'd have to search for acceptable exits for each currency pair, and there would be more risk and less likelihood of gains... plus, you would have to really "work" at the trade.

Hi Kat,

I think you've hit upon a key point that the viability of the approach is critically dependent on whether all the trades as a set can actually be filled. I can't imagine how to backtest this point except with reference to historical Bid and Ask data.

I set up an FPI plot for the EUR/USD/JPY set using CME futures and am forced to eat crow now given my post upthread. It turns out there isn't enough liquidity in the EURJPY pair at the CME for the strategy to work.

:)

It becomes very clear also (and very important to understand) that large FPI deviation from 1 can be associated with a lack of liquidity in a single pair rather than being a tremendous hedge opportunity.

The upshot... focus on historical Bid/Ask and not historical Closes to test the idea.

aspTrader
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Postby aspTrader » Sat Oct 14, 2006 7:57 pm

Turns out this is a much discussed strategy known as "Triangular Arbitrage". Google it.

Hat tip to the "nothing man"

BlackJack
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Postby BlackJack » Sun Oct 15, 2006 2:46 am

aspTrader wrote:Turns out this is a much discussed strategy known as "Triangular Arbitrage". Google it.

Hat tip to the "nothing man"


Hi aspTrader,

Although FPI may have a similer look and feel to "Triangular Arbitrage" it is only skin deep.

The essence of TA is not to execute the elements of the triangle simultaneously but instead to do it sequencially, and to end up not holding any position. ie USD are exchanged for Yen - Yen are then exchanged for GBP - GBP are then exchanged back to USD.

BJ

aspTrader
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Postby aspTrader » Sun Oct 15, 2006 4:06 am

BlackJack wrote:The essence of TA is not to execute the elements of the triangle simultaneously but instead to do it sequencially, and to end up not holding any position. ie USD are exchanged for Yen - Yen are then exchanged for GBP - GBP are then exchanged back to USD.

Blackjack,

Thanks for the feedback.

It may be that some folks use the Triangular Arbitrage label in the way you say. I don't doubt that. But on page 2 here:

http://hatano-lab.iis.u-tokyo.ac.jp/aiba/nikkei.pdf

the following passage appears:

Triangular Arbitrage in the Foreign Exchange Market wrote:The triangular arbitrage is a financial activity that takes advantage of three exchange rates. When a trader exchanges one Japanese yen to some amount of US dollar, exchanges the amount of US dollar to some amount of euro and exchanges the amount of euro back to Japanese yen instantly at time t, the final amount of Japanese yen is given by

<...Set of Formulas Snip...>

If the rate product μ is greater than unity, the trader can make profit through the above transaction. This is the triangular arbitrage transaction.

(emphasis added)

Given what you've written above, it seems to me that Triangular Arbitrage is likely a phrase to describe several different types of hedging opportunities in the currencies.

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