Crypto Currencies and The Future of Finance:
Since 2019, I have been working on a multi-author project at the Center for Governance of Change at IE Business School. Full details about the project can be found at:
Research in Progress
Pairs Trading is commonly referred to as the most straightforward example of a market neutral trading strategy. In this study, we analyse how market news and idiosyncratic news affect the profitability of this statistical arbitrage trading technique. We propose a conditional covariance framework based on Kroner and Ng (1998) extension of the BEKK Generalized Autoregressive Conditional Heteroskedasticity (GARCH) model to analyse the dependence of second moments between different portfolios of pairs and the returns of the market. In contradiction to what is generally assumed about the market neutrality of this strategy, our preliminary results indicate the existence of significant spillovers from market news to different portfolios of pairs. In fact, market shocks seem to play a significant role in explaining conditional second moments of the returns of these portfolios, particularly in more turbulent periods. Not only do market shocks have a significant impact on the volatility of different portfolios, but they also appear to influence the correlation of this strategy with the market.
Data for replication:
Mussa Strikes Back: What conditional second moments tell us about the PPP Puzzle
Most of the discussion about the Purchasing Power Parity (PPP) Puzzle of Rogoff (1996) has pertained to the reversion speed of deviations from PPP. Much less attention, however, has been given to the other component of the puzzle: the high short-term volatilities of real exchange rates. This paper plans to improve the understanding of the PPP Puzzle in three ways. First, we explicitly model the short-term volatilities of real exchange rates in a univariate Generalized Autoregressive Conditional Heteroskedasticity (GARCH) framework. This allows one to better understand their dynamics. Particularly, one can see how stable these variances are over different periods and analyse the persistence of changes in them over time. Second, we are currently studying the conditional covariance matrix of the system with nominal exchange rates and price differentials in a multivariate GARCH model. This will allow to decompose the terms of short-run real exchange rate volatilities in a dynamic manner and hence to explicitly analyse spillovers from shocks in price differentials and nominal exchange rates to the adjustment (covariance) term. The final objective is to study the economic sources of these high short-term volatilities by using a number of macroeconomic and financial variables in a new class of volatility models that combines components from the Spline-GARCH of Engle and Rangel (2008) and the mixed data sampling filters of Ghysels et al. (2005).