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Gold Standard Pairs Trading Rules: Are They Valid?

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  • Miroslav Fil

Abstract

Pairs trading is a strategy based on exploiting mean reversion in prices of securities. It has been shown to generate significant excess returns, but its profitability has dropped significantly in recent periods. We employ the most common distance and cointegration methods on US equities from 1990 to 2020 including the Covid-19 crisis. The strategy overall fails to outperform the market benchmark even with hyperparameter tuning, but it performs very strongly during bear markets. Furthermore, we demonstrate that market factors have a strong relationship with the optimal parametrization for the strategy, and adjustments are appropriate for modern market conditions.

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  • Miroslav Fil, 2020. "Gold Standard Pairs Trading Rules: Are They Valid?," Papers 2010.01157, arXiv.org.
    • Handle: RePEc:arx:papers:2010.01157
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    References listed on IDEAS

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    1. Engle, Robert & Granger, Clive, 2015. "Co-integration and error correction: Representation, estimation, and testing," Applied Econometrics, Russian Presidential Academy of National Economy and Public Administration (RANEPA), vol. 39(3), pages 106-135.
    2. Binh Do & Robert Faff, 2012. "Are Pairs Trading Profits Robust To Trading Costs?," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 35(2), pages 261-287, June.
    3. Jacobs, Heiko & Weber, Martin, 2015. "On the determinants of pairs trading profitability," Journal of Financial Markets, Elsevier, vol. 23(C), pages 75-97.
    4. Christopher Krauss, 2017. "Statistical Arbitrage Pairs Trading Strategies: Review And Outlook," Journal of Economic Surveys, Wiley Blackwell, vol. 31(2), pages 513-545, April.
    5. Nicolas Huck, 2013. "The high sensitivity of pairs trading returns," Applied Economics Letters, Taylor & Francis Journals, vol. 20(14), pages 1301-1304, September.
    6. Nicolas Huck, 2013. "The high sensitivity of pairs trading returns," Post-Print hal-01369286, HAL.
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