Mean Reversion Pays, but Costs
Trading and Market Microstructure
2011-03-28 v1 Probability
Portfolio Management
Abstract
A mean-reverting financial instrument is optimally traded by buying it when it is sufficiently below the estimated `mean level' and selling it when it is above. In the presence of linear transaction costs, a large amount of value is paid away crossing bid-offers unless one devises a `buffer' through which the price must move before a trade is done. In this paper, Richard Martin and Torsten Sch\"oneborn derive the optimal strategy and conclude that for low costs the buffer width is proportional to the cube root of the transaction cost, determining the proportionality constant explicitly.
Keywords
Cite
@article{arxiv.1103.4934,
title = {Mean Reversion Pays, but Costs},
author = {Richard Martin and Torsten Schöneborn},
journal= {arXiv preprint arXiv:1103.4934},
year = {2011}
}
Comments
This is a longer version of an article published in RISK(24)2:84--89 (Feb.~2011)