In search of pairs using firm fundamentals: is pairs trading profitable?

Sungju Hong and Soosung Hwang

The European Journal of Finance, 2023, vol. 29, issue 5, 508-526

Abstract: We investigate whether spurious pairs created by multiple hypothesis testing can be minimized when firm characteristics are used to identify pairs. The results show that the portfolios of pairs that have higher similarities in firm characteristics outperform those that are fundamentally less similar by minimizing the non-convergence risk. The cost of trading spurious pairs is significant despite the empirical results that the profitability of pairs trading has continued to decline since 2003 and is not significant anymore. Accounting information plays a crucial role in identifying pairs rather than market trading data, and the importance of firm fundamentals in pairs trading increases during market crises.

Date: 2023
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DOI: 10.1080/1351847X.2022.2068964

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