New answers tagged arbitrage
Try the Avellaneda (2009) paper. The strategy involves some mean-reverting models and some PCAs. Easy to read without getting too technical.
The claim payoff you describe, $g(M)$, looks to me like a tight butterfly spread that pays off only in one state of the world. Can't you just replicate that by short two calls with strike $K_0$ and long two calls, with strikes one either side at $K_0\pm 1$? Then the price of your option would be $C(K_0+1)+C(K_0-1)-2\cdot C(K_0)$. This is effectively the ...
I suggest you to start reading E. P. Chan's books; here below you can find the references: Chan, Ernest P. "Quantitative Trading." New Jersey (2008). Chan, Ernest P. "Algorithmic Trading: Winning Strategies and Their Rationale" New Jersey (2013). His books are written down in a readable and simple way, so that a newbie can understand too, and, he ...
Start with http://en.wikipedia.org/wiki/Statistical_arbitrage and the references therein. Especially Avellaneda (technical) and Bookstaber (historical, how Bamberger and Thorp got the whole thing started).
I went through historical data, and computed the daily P&L of the strategy, and correlation with GBPUSD is perfect, so the strategy is indeed affected by currency risk, even if at all times, 5 UK stock = 1 ADR see graph Now I still need to understand why, because my expectation was to remain at all time with a position equivalent to the one I had with ...
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