2021/11/04 by Li, T. N., Tourin, A.
#FOS: Economics and business #FOS: Mathematics #Numerical Analysis (math.NA) #Optimization and Control (math.OC) #Portfolio Management (q-fin.PM) #Probability (math.PR)
paper · doi:10.48550/arxiv.2111.02834
We propose a pairs trading model that incorporates a time-varying volatility of the Constant Elasticity of Variance type. Our approach is based on stochastic control techniques; given a fixed time horizon and a portfolio of two co-integrated assets, we define the trading strategies as the portfolio weights maximizing the expected power utility from terminal wealth. We compute the optimal pairs strategies by using a Finite Difference method. Finally, we illustrate our results by conducting tests on historical market data at daily frequency. The parameters are estimated by the Generalized Method of Moments.