THE LONG – SHORT STRATEGY BASED ON COINTEGRATION CONCEPT

This paper presents a strategy of asset allocation based on the concept of cointegration. The method used can be applied on non-stationary data and has the advantage of using the whole set of information given by the financial variables. The cointegration approach is used for the construction of portfolios that can accurately follow an index. The results obtained are used in order to construct a long-short strategy. The steps followed are: First, two new indices are constructed to mimic the evolution of the original index but one has a higher yield at the end of the period (“plus benchmark”) and the other has a lower yield (“minus benchmark”). The concept of cointegration is then used to build portfolios that follow as well as possible the new indices. The “plus portfolios” and “minus portfolios” constructed this way are combined in a long-short strategy that has a low correlation with the market returns.