This paper investigates the robust optimal pairs trading using the concept of equivalent probability measures and a penalty function associated with the confidence in parameter estimates when the parameters in the drift term of the continuous-time cointegration model are estimated with errors. A closed-form solution is derived for the robust pairs trading rule. We compare the robust pairs trading rule against its non-robust counterpart using simulations and real data. The robust strategy is empirically more stable and less volatile. Copyright © 2018 Elsevier B.V. All rights reserved.
CitationChiu, M. C., & Wong, H. Y. (2018). Robust dynamic pairs trading with cointegration. Operations Research Letters, 46(2), 225-232. doi: 10.1016/j.orl.2018.01.006
- Pairs trading
- Robust decision rule