I've enjoyed Ernie's posts in the past; I cannot comment on his success as a definitive book author but his blog commentary with respect to relative value trading is usually a worthwhile read.
Having said that, it is indeed extremely relevant to separate the academic exercise from the practical application in the particular case of statistical arbitrage. This tactic has progressed from simple pairs trading in the 1980's to huge baskets or portfolios of long/short stock positions designed and tested to pare down beta risk as much as possible and to capture these co integration moves away from the established mean - hopefully many times over the course of a trading day by means of automation.
This stuff can be easy enough for a decent HF analyst or good quantitative soloist to model and test for - if you have a Bloomberg terminal and can find the beta scatter plot functionality you're walking in tall cotton already.
But here's the catch, and the reason why IMHO why the separation between academic and practical exercise is so important: the execution of the trade makes it or breaks it. As I type this, there are literally hundreds of firms in Chicago, NYC, Greenwich CT, London, etc. that invest huge sums of money for ECN infrastructure and to pay for access to order flow and exchange order queue priority ( even front running ) in order to conduct statistical arbitrage.
Let's say, for example, as an independent trader clearing, let's say, IB, that you've carefully identified and tested a pair of stocks that your rigorous back testing says you should be able to capture 2 cents per trade, let's say, on average, 30 times per day, on these volatility blips away from the established mean. Looks superb on paper. You open up TWS and create the appropriate combination order selection tab. My prediction would be that the leg slippage in the live markets makes the trade that looked so good on paper just disappear. Or worse, you are repeatedly getting hung and over the course of the trading day you have on a directional unhedged stock position on numerous occasions.
This is just my opinion, but legitimate and consistent statistical arbitrage success for the independent trader with a $50K retail account would be a very difficult proposition based purely upon execution slippage.
Having said that, it is indeed extremely relevant to separate the academic exercise from the practical application in the particular case of statistical arbitrage. This tactic has progressed from simple pairs trading in the 1980's to huge baskets or portfolios of long/short stock positions designed and tested to pare down beta risk as much as possible and to capture these co integration moves away from the established mean - hopefully many times over the course of a trading day by means of automation.
This stuff can be easy enough for a decent HF analyst or good quantitative soloist to model and test for - if you have a Bloomberg terminal and can find the beta scatter plot functionality you're walking in tall cotton already.
But here's the catch, and the reason why IMHO why the separation between academic and practical exercise is so important: the execution of the trade makes it or breaks it. As I type this, there are literally hundreds of firms in Chicago, NYC, Greenwich CT, London, etc. that invest huge sums of money for ECN infrastructure and to pay for access to order flow and exchange order queue priority ( even front running ) in order to conduct statistical arbitrage.
Let's say, for example, as an independent trader clearing, let's say, IB, that you've carefully identified and tested a pair of stocks that your rigorous back testing says you should be able to capture 2 cents per trade, let's say, on average, 30 times per day, on these volatility blips away from the established mean. Looks superb on paper. You open up TWS and create the appropriate combination order selection tab. My prediction would be that the leg slippage in the live markets makes the trade that looked so good on paper just disappear. Or worse, you are repeatedly getting hung and over the course of the trading day you have on a directional unhedged stock position on numerous occasions.
This is just my opinion, but legitimate and consistent statistical arbitrage success for the independent trader with a $50K retail account would be a very difficult proposition based purely upon execution slippage.
