Extracto del paper “Dynamic modeling of mean-reverting spreads for statistical arbitrage“:

*“The underlying assumption of pairs trading is that two financial instruments with similar characteristics must be priced more or less the same. Accordingly, the first step consists in finding two financial instruments whose prices, in the long term, are expected to be tied together by some common stochastic trend.What this implies is that, although the two time series of prices may not necessarily move in the same direction at all times, their spread (for instance, the simple price difference) will fluctuate around an equilibrium level. Since the spread quantifies the degree of mispricing of one asset relative to the other one, these strategies are also refereed to as relative-value.*

*If a common stochastic trend indeed exists between the two chosen assets, any temporary deviation from the assumed mean or equilibrium level is likely to correct itself over time. ***The predictability of this portfolio can then be exploited to generate excess returns: a trader, or an algorithmic trading system, would open a position every time a substantially large deviation from the equilibrium level is detected and would close the position when the spread has reverted back to the its mean.** This simple concept can be extended in several ways, for instance by replacing one of the two assets with an artificial one (e.g. a linear combination of asset prices), with the purpose of exploiting the same notions of relative-value pricing and mean-reversion, although in different ways (…)”

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