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Statistical arbitrage: factor investing approach

Author

Listed:
  • Erdinc Akyildirim

    (Bradford University
    Bogazici University
    University of Zurich)

  • Ahmet Goncu

    (Istanbul Technical University)

  • Alper Hekimoglu

    (Model Validation Division, European Investment Bank)

  • Duc Khuong Nguyen

    (Léonard de Vinci Pôle Universitaire
    Vietnam National University)

  • Ahmet Sensoy

    (Bilkent University
    Lebanese American University)

Abstract

We introduce a continuous time model for stock prices in a general factor representation with the noise driven by a geometric Brownian motion process. We derive the theoretical hitting probability distribution for the long-until-barrier strategies and the conditions for statistical arbitrage. We optimize our statistical arbitrage strategies with respect to the expected discounted returns and the Sharpe ratio. Bootstrapping results show that the theoretical hitting probability distribution is a realistic representation of the empirical hitting probabilities. We test the empirical performance of the long-until-barrier strategies using US equities and demonstrate that our trading rules can generate statistical arbitrage profits.

Suggested Citation

  • Erdinc Akyildirim & Ahmet Goncu & Alper Hekimoglu & Duc Khuong Nguyen & Ahmet Sensoy, 2023. "Statistical arbitrage: factor investing approach," OR Spectrum: Quantitative Approaches in Management, Springer;Gesellschaft für Operations Research e.V., vol. 45(4), pages 1295-1331, December.
    • Handle: RePEc:spr:orspec:v:45:y:2023:i:4:d:10.1007_s00291-023-00733-z
    DOI: 10.1007/s00291-023-00733-z
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    More about this item

    Keywords

    Statistical arbitrage; Factor models; Trading strategies; Geometric Brownian motion; Monte Carlo simulation;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation

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