Pairs trading on the Swedish equity market; Cointegrate and Capitalize

Abstract: This thesis investigates the long- and short- run stability of Cointegrated dual share equity pairs on the Swedish Equity Market. Testing for a cointegrated relationship on each pair are executed for a 13 year period to establish the cointegrated pairs. The stability of each cointegrated pair is then estimated using a rolling two year period. An Arbitrage Trading strategy is applied to the cointegrated pairs for the following one year period. The long-run relationship of the pairs are found to be stable. The short-term relationship varies from pair to pair, where some pairs break their cointegrated relationship for some time periods. But generally, most pairs are stable over the short- term as well. The trading strategy generate the highest returns during volatile market conditions and underperforms during positive market conditions with low volatility. The Sharpe ratio is far better than the Index during the whole period.