Pairs trading during a crisis

This quote from an article in today’s Financial News stood out:

Although the eurozone sovereign debt crisis has ravaged global markets, the poor performance over the past year has echoes of 2008, when high asset correlations destroyed the portfolios of unwary managers.

Hutchins said: “We all overpromised as an industry that we can all outperform in down markets. I think that is nonsense, frankly.”

Simon Wood, co-head of the multi-manager team at Scottish Widows Investment Partnership, one of the best performing multi-managers, said: “When there are times of real market stress, everything goes down. It is only when the markets calm a bit you tend to see some of the markets we like start to outperform.” (link)

For traders of relative value it is a little difficult to reconcile these views with the results of this paper that shows cointegration and minimum distance approaches seriously out-performing through the latest period of the current economic crisis to 2008. A good read both for practitioners looking to improve their pairs trading approach and those considering constructing one. Sample results graph: