Pre-selection in cointegration-based pairs trading

Marianna Brunetti and Roberta De Luca
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Roberta De Luca: Bank of Italy

Statistical Methods & Applications, 2023, vol. 32, issue 5, No 8, 1640 pages

Abstract: Abstract The paper compares the final profitability of a cointegration-based pairs trading strategy when pairs of stocks are pre-selected by means of seven different measures. Some of the measures considered have been extensively used in the pairs trading literature, while others represent a novelty in this type of application. We find that pre-selection matters, since the excess returns remarkably vary, in terms of both average and variability, depending on the metrics used. Differences in profitability by pre-selection metrics are retrieved even after considering commissions and cut rules, market impact, a stricter definition of the Spread reversion to the equilibrium and alternative cointegration tests. Besides, the pairs trading profitability is found to be heterogeneous across the different pre-selection metrics also in terms of exposure to the systematic stock-market risk factors.

Keywords: Pairs trading; Pre-selection; Cointegration; Spectral coherence; Risk factors (search for similar items in EconPapers)
JEL-codes: C40 C50 G10 (search for similar items in EconPapers)
Date: 2023
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Working Paper: Pre-selection in cointegration-based pairs trading (2022)
Working Paper: Pre-selection in Cointegration-based Pairs Trading (2021)
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DOI: 10.1007/s10260-023-00702-4

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