Statistical Arbitrage with Pairs Trading

Goncu A., Akyildirim E.

INTERNATIONAL REVIEW OF FINANCE, cilt.16, sa.2, ss.307-319, 2016 (SSCI) identifier identifier

  • Yayın Türü: Makale / Derleme
  • Cilt numarası: 16 Sayı: 2
  • Basım Tarihi: 2016
  • Doi Numarası: 10.1111/irfi.12074
  • Dergi Adı: INTERNATIONAL REVIEW OF FINANCE
  • Derginin Tarandığı İndeksler: Social Sciences Citation Index (SSCI), Scopus
  • Sayfa Sayıları: ss.307-319
  • Akdeniz Üniversitesi Adresli: Evet

Özet

We analyze statistical arbitrage with pairs trading assuming that the spread of two assets follows a mean-reverting Ornstein-Uhlenbeck process around a long-term equilibrium level. Within this framework, we prove the existence of statistical arbitrage and derive optimality conditions for trading the spread portfolio. In the existence of uncertainty in the long-term mean and the volatility of the spread, statistical arbitrage is no longer guaranteed. However, the asymptotic probability of loss can be bounded as a function of the standard error of the model parameters. The proposed framework provides a new filtering technique for identifying best pairs in the market. Backtesting results are given for some of the pairs of stocks that are studied in the literature.