On the Determinants of Pairs Trading Profitability

44 Pages Posted: 6 Jan 2015

See all articles by Heiko Jacobs

Heiko Jacobs

University of Duisburg-Essen, Campus Essen

Martin Weber

University of Mannheim - Department of Banking and Finance

Date Written: December 22, 2014

Abstract

We perform a large-scale empirical analysis of pairs trading, a popular relative-value arbitrage approach. We start with a cross-country study of 34 international stock markets and uncover that abnormal returns are a persistent phenomenon. We then construct a comprehensive U.S. data set to explore the sources behind the puzzling profitability in more depth. Our findings indicate that the type of news leading to pair divergence, the dynamics of investor attention as well as the dynamics of limits to arbitrage are important drivers of the strategy's time-varying performance.

Keywords: Pairs trading, relative-value arbitrage, return predictability, international stock markets, limited attention, limits to arbitrage

JEL Classification: G12, G14

Suggested Citation

Jacobs, Heiko and Weber, Martin, On the Determinants of Pairs Trading Profitability (December 22, 2014). Journal of Financial Markets, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2545440

Heiko Jacobs (Contact Author)

University of Duisburg-Essen, Campus Essen ( email )

Universitätsstr. 9
Essen, 45141
Germany
+49-(0)621-181-3453 (Phone)
+49-(0)621-181-1534 (Fax)

HOME PAGE: http://sites.google.com/site/heikojacobsfinance/

Martin Weber

University of Mannheim - Department of Banking and Finance ( email )

D-68131 Mannheim
Germany
+49 621 181 1532 (Phone)
+49 621 181 1534 (Fax)

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