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The Basic of Mean Reversion (Part 1)

Updated: Dec 7, 2021

In financial market, all asset price are time series (e.g. stock prices, commodity price, cryptocurrency price, and etc.). Therefore, we will try to find out which asset prices has a mean reversion property, and using this property to create a trading strategy. The strategy will be very simple in which we will try to identify the long-run mean of the asset prices and then trade against its price to the long-run mean.

To illustrate, if price of stock A is mean reverting, when the asset price is above the average price, we will make a sell position on the stock (buy position if the price of stock A is below the average price), because the asset price is expected to move toward to their average price. And if the asset price exhibits a mean reverting as we expected, the strategy will be a profitable and very simple.

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