Monday, May 31, 2010

Estimating the fair price of ETF components




  1. Nice. I agree, points to a number of strategies (assuming the above pattern holds true historically and beyond), amongst them:

    - observing that undeperformers and overperformers tend to have momentum in their respective directions (short spread or long spread to ETF)

    - various portfolio based approaches where one tries to outperform the ETF over a period, spread to ETF

  2. Indeed, looking at the chart I've thought about the momentum strategy, but for now I'm still focusing on a mean-reverter for this one.
    The reason for this: if you do a linear regresson y=beta*x+alpha , where y = stock return and x-etf return (for each bar), the offset factor alpha is incredibly small compared to beta. A momentum strategy would be based on this alpha, while a mean reverter works with beta. Beta should also be stable in time as opposed to alpha.