Developing trading strategies based on fractal finance: An application of MF-DFA in the context of Islamic equities

Ginanjar Dewandaru, Rumi Masih, Obiyathulla Bacha and A. Mansur. M. Masih
Authors registered in the RePEc Author Service: Abul Mansur Mohammed Masih

Physica A: Statistical Mechanics and its Applications, 2015, vol. 438, issue C, 223-235

Abstract: We provide a new contribution to trading strategies by using multi-fractal de-trended fluctuation analysis (MF-DFA), imported from econophysics, to complement various momentum strategies. The method provides a single measure that can capture both persistency and anti-persistency in stock prices, accounting for multifractality. This study uses a sample of Islamic stocks listed in the U.S. Dow Jones Islamic market for a sample period covering 16 years starting in 1996. The findings show that the MF-DFA strategy produces monthly excess returns of 6.12%, outperforming other various momentum strategies. Even though the risk of the MF-DFA strategy may be relatively higher, it can still produce a Sharpe ratio of 0.164, which is substantially higher than that of the other strategies. When we control for the MF-DFA factor with the other factors, its pure factor return is still able to yield a monthly excess return of 1.35%. Finally, we combine the momentum and MF-DFA strategies, with the proportions of 90/10, 80/20, and 70/30 and by doing so we demonstrate that the MF-DFA measure can boost the total monthly excess returns as well as Sharpe ratio. The value added is non-linear which implies that the additional returns are associated with lower incremental risk.

Keywords: Islamic equity; Trading strategy; Multifractal detrended fluctuation analysis MF-DFA; Efficiency; Momentum contrarian (search for similar items in EconPapers)
Date: 2015
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Citations: View citations in EconPapers (11)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:phsmap:v:438:y:2015:i:c:p:223-235

DOI: 10.1016/j.physa.2015.05.116

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