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KED a good pairs trade.

|Includes:Kayne Anderson Energy Development (KED), XLE

The Kayne Anderson Energy Development fund is a closed-end fund that invests at least 80% of its assets in energy companies.  A closed end fund is a fund that has a limited number of shares that trade like a stock.  They hold a diversified You can see a list of KED holdings HERE.

Closed end funds usually have more volatility than the sectors they track because they have less of a float and the owners of the shares usually do not move in and out of the stock.  For instance, right now KED is trading at a 9.1% discount to NAV.  This means that you are buying into the fund's companies at less than their market value.

We can use this volatility to our advantage in a pairs trade.  By trading KED against an energy sector ETF, we can hedge away market risk and capture the inefficiency of the market for KED.  Even if sellers of KED are correct and the diversified energy holdings of KED are headed down, then the entire energy sector should also head down.  This makes KED a good candidate for a pairs trade.  If we pair a long KED position with a short XLF position, our market risk is hedged and we can profit from the inefficient market in KED.

Below is a chart of KED vs XLE for the past year.

KED vs. XLEClick to enlarge

They have been trading off kilter now for about 3 months.  They should return to an equivalent return over the long run.  Could be an easy 5-10% return with little to no risk.



Disclosure: I am long KED.

Additional disclosure: Short XLE

Stocks: KED, XLE