The Art of Statistical Arbitrage — An Overview

Contents

Part 1: What is Pairs Trading?

Part 2: An Overview of Pairs Trading

Part 3: Conclusion

1- What is Pairs Trading

As a primer to our current topic, I would strongly suggest reading another article I wrote on the concept of arbitrage.

The Concept of Arbitrage

With that said, I can formally introduce the definition of arbitrage as such:

An arbitrage (portfolio) is one where you pay nothing to enter it, and you make a certain risk-less positive profit.

There are a few instances in the market where arbitrage opportunities occur. The one we will consider will be an inter-stock instance. Essentially, this means that we will exploit a statistical property between two different stocks on the same exchange.

Now,

1.1 What is pairs trading?

Pairs trading is a strategy that consists of two components: A) Identifying a pair of stocks that move…