Pairs trading of Chinese and international commodities

Adrian Fernandez-Perez, B.P.M. Frijns, Ivan Indriawan, Yiuman Tse*

*Corresponding author for this work

Research output: Contribution to journalArticleAcademicpeer-review

Abstract

We investigate the profitability of a pairs trading strategy using Chinese and international commodity futures contracts covering the period January 2004 to February 2018. We use a time-series approach where the commodity pairs share a similar underlying. An out-of-sample test is employed to infer the performance of these pairs, allowing us to determine the optimal open and close positions for the pairs trading strategy. Applying this strategy to a portfolio of commodities yields an excess return of 2.08% per annum and a Sharpe ratio of 0.79. For a portfolio of metal futures, this strategy yields 5.32% excess returns and a Sharpe ratio of 1.47, whereas for gold-only futures, this strategy yields 7.39% excess returns and 1.95 Sharpe ratio. This performance is superior to traditional strategies based on term structure, momentum, and value portfolios. Arbitrage opportunities in these commodity pairs remain even after accounting for transaction costs and are robust to data-snooping bias.
Original languageEnglish
Number of pages15
JournalApplied Economics
DOIs
Publication statusE-pub ahead of print - 11 Jun 2020

Keywords

  • Pair trading
  • Chinese commodity futures
  • portfolio gains
  • arbitrage opportunities

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