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Research > Finance > Market Timing and Trading Strategies using Asset Rotation: Non-Neutral Market Positioning for Exploiting Arbitrage Opportunities 

Market Timing and Trading Strategies using Asset Rotation: Non-Neutral Market Positioning for Exploiting Arbitrage Opportunities

 

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Market Timing and Trading Strategies using Asset Rotation: Non-Neutral Market Positioning for Exploiting Arbitrage Opportunities

Panagiotis Schizas & Dimitrios D. Thomakos

Quantitative Finance
Forthcoming
 
Abstract. We present empirical results on the statistical and economic viability of a market timing and trading strategy that is based on a pairwise rotation between two risky assets. Using data on equity exchange traded funds, and models for both the returns and the volatility of the underlying assets, we compare the performance of the suggested models with the standard benchmarks of a buy-and-hold strategy and an equally weighted portfolio. The underlying intuition for the use of such a strategy rests with literature on sign and volatility predictability. The rotation strategy, as we apply it in this paper, is not risk-neutral and assumes the presence of arbitrage opportunities in the markets and short-term trends. Furthermore, the model specification uses the interplay between relative returns and relative volatilities in picking-up the asset with the highest return. Our results show that even a naive model that is based on a moving average of relative returns can outperform both benchmarks and that more elaborate specifications for the rotation model may yield additional performance gains. We also find that, in many cases, the rotation strategy yields statistically significant sign predictions of the relative returns and volatility. While our results are conditional on the data that we have used in our analysis they, nevertheless, support the market-timing literature and show that an active trading strategy can be based on the concept of rotation.

Keywords. Exchange-traded funds, Forecasting, Market timing, Sign predictions, Statistical arbitrage, Technical trading, Volatility timing

DOI. 10.1080/14697688.2013.850172


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