Abstract
Pairs trading strategy is a famous strategy and commonly taken by many investors. There are various approaches to define the pairs trading signal which is the important part of the strategy. This study aims to propose an alternative approach, Markov Switching Regression GARCH model, to specify the trading signal for stock pair taking into account the structural change in the pair return. We applied our proposed model to the Stock Exchange of Thailand and the result shows our pairs trading strategy is relatively more effective for financial investment management compared with the single mean return from individual stock method.
This is a preview of subscription content, log in via an institution to check access.
Access this chapter
Tax calculation will be finalised at checkout
Purchases are for personal use only
Similar content being viewed by others
References
Bauwens, L., Preminger, A., Rombouts, J.V.: Theory and inference for a Markov switching GARCH model. Econometrics J. 13(2), 218–244 (2010)
Bollerslev, T.: Generalized autoregressive conditional heteroskedasticity. J. Econometrics 31(3), 307–327 (1986)
Bock, M., Mestel, R.: A regime-switching relative value arbitrage rule. In: Fleischmann, B., Borgwardt, K.-H., Klein, R., Tuma, A. (eds.) Operations Research Proceedings 2008, pp. 9–14. Springer, Heidelberg (2009)
Chiu, M.C., Wong, H.Y.: Dynamic cointegrated pairs trading: meanvariance time-consistent strategies. J. Comput. Appl. Math. 290, 516–534 (2015)
Do, B., Faff, R., Hamza, K.: A new approach to modeling and estimation for pairs trading. In: Proceedings of 2006 Financial Management Association European Conference, pp. 87–99 (2006)
Chen, C.W.S., Chen, M., Chen, S.-Y.: Pairs trading via three-regime threshold autoregressive GARCH models. In: Huynh, V.-N., Kreinovich, V., Sriboonchitta, S. (eds.) Modeling Dependence in Econometrics. AISC, vol. 251, pp. 127–140. Springer, Heidelberg (2014). doi:10.1007/978-3-319-03395-2_8
Elliott, R.J., Van Der Hoek, J., Malcolm, W.P.: Pairs trading. Quant. Financ. 5(3), 271–276 (2005)
Hamilton, J.D.: A new approach to the economic analysis of nonstationary time series and the business cycle. Econometrica 57, 357–384 (1989)
Hamilton, J.D.: Time Series Analysis. Princeton University Press, Princeton (1994)
Haas, M., Mittnik, S., Paolella, M.S.: A new approach to Markov-switching GARCH models. J. Financ. Econometrics 2(4), 493–530 (2004)
Kuan, C.M.: Lecture on the markov switching model. Inst. Econ. Acad. Sinica, 1–30 (2002)
Marcucci, J.: Forecasting stock market volatility with regime-switching GARCH models. Stud. Nonlinear Dyn. Econometrics 9(4), 1–55 (2005)
Perlin, M.: MS-Regress-the MATLAB package for Markov regime switching models. SSRN 1714016 (2015)
Gatev, E., Goetzmann, W.N., Rouwenhorst, K.G.: Pairs trading: performance of a relative-value arbitrage rule. Rev. Financ. Stud. 19(3), 797–827 (2006)
Karimalis, E.N., Nomikos, N.: Measuring: systemic risk in the European banking sector: a copula CoVaR approach. Working paper, Cass City College, London (2014)
Miao, G.J.: High frequency and dynamic pairs trading based on statistical arbitrage using a two-stage correlation and cointegration approach. Int. J. Econ. Financ. 6(3), 96 (2014)
Pastpipatkul, P., Yamaka, W., Sriboonchitta, S.: Analyzing financial risk and co-movement of Gold market, and Indonesian, Philippine, and Thailand stock markets: dynamic copula with Markov-switching. In: Huynh, V.-N., Kreinovich, V., Sriboonchitta, S. (eds.) Causal Inference in Econometrics. SCI, vol. 622, pp. 565–586. Springer, Heidelberg (2016). doi:10.1007/978-3-319-27284-9_37
Tfoli, P.V., Ziegelmann, F.A., Silva Filho, O.C.: A comparison study of copula models for European financial index returns. In: 34 Meeting of the Brazilian Econometric Society (2012)
Vidyamurthy, G.: Pairs: Trading: Quantitative Methods and Analysis, vol. 217. Wiley, New York (2004)
Yang, J.W., Tsai, S.Y., Shyu, S.D., Chang, C.C.: Pairs trading: the performance of a stochastic spread model with regime switching-evidence from the S&P 500. Int. Rev. Econ. Financ. 43, 139–150 (2016)
Author information
Authors and Affiliations
Corresponding author
Editor information
Editors and Affiliations
Rights and permissions
Copyright information
© 2016 Springer International Publishing AG
About this paper
Cite this paper
Zhu, K., Yamaka, W., Sriboonchitta, S. (2016). Pair Trading Rule with Switching Regression GARCH Model. In: Huynh, VN., Inuiguchi, M., Le, B., Le, B., Denoeux, T. (eds) Integrated Uncertainty in Knowledge Modelling and Decision Making. IUKM 2016. Lecture Notes in Computer Science(), vol 9978. Springer, Cham. https://doi.org/10.1007/978-3-319-49046-5_50
Download citation
DOI: https://doi.org/10.1007/978-3-319-49046-5_50
Published:
Publisher Name: Springer, Cham
Print ISBN: 978-3-319-49045-8
Online ISBN: 978-3-319-49046-5
eBook Packages: Computer ScienceComputer Science (R0)