using cointegration to hedge and trade international equities

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1、2UsingCointegrationtoHedgeandTradeInternationalEquitiesA.NEILBURGESSABSTRACTInthischapter,weexaminetheapplicationoftheeconometricconceptofcointegrationasatoolforhedgingandtradinginternationalequities.Theconceptsareillustratedwithrespecttoaparticularsetofdat

2、a,namelythe50equitieswhichconstitutedtheSTOXX50indexasof4July2002.Thedailyclosingpricesoftheseequitiesareinvestigatedoveraperiodfrom14September1998to3July2002–thelongestperiodoverwhichcontinuousdataisavailableacrossthewholesetofstocksinthisparticularunivers

3、e.Theuseofdailyclosingpriceswillintroducesomespuriouseffectsduetothenon-synchronousclosingtimesofthemarketsonwhichtheseequitiestrade.Inspiteofthis,however,thedataaredeemedsuitableforthepurposesofillustratingthetoolsinquestionandalsoofindicatingthepotentialb

4、enefitstobegainedfromintelligentapplicationofthesetools.Weconsidercointegrationasaframeworkformodellingtheinter-relationshipsbetweenequitiesprices,inamannerwhichcanbeseenasasophisticatedformof“relativevalue”analysis.Dependingontheparticulartaskinhand,cointeg

5、rationtechniquescanbeusedtoidentifypotentialhedgesforagivenequitypositionand/ortoidentifypotentialtradeswhichmightbetakenfromastatisticalarbitrageperspective.2.1INTRODUCTIONInthissectionwedescribetheeconometricconceptof“cointegration”,andexplainourmotivatio

6、nfordevelopingtradingtoolsbaseduponacointegrationperspective.Cointegrationisessentiallyaneconometrictoolforidentifyingsituationswherestablerelationshipsexistbetweenasetoftimeseries.Ineconometrics,cointegrationtestingistypicallyseenasanendinitself,withtheobj

7、ectiveoftestinganeconomichypothesisregardingthepresenceofanequilibriumrelationshipbetweenasetofeconomicvariables.Apossiblesecondstageofcointegrationmodellingistoestimatethedynamicsofthemechanismbywhichshort-termdeviationsfromtheequilibriumarecorrected,i.e.t

8、oconstructanerror-correctionmodel(ECM).Thefirstaspectofcointegrationmodellingisinterestingfromtheperspectiveof“hedg-ing”assetsagainsteachother.Theestimatedequilibriumrelationshipwillbeoneinwhichtheeffec