How to test pairs trading strategy positive returns if I thought the returns with this hypotheses

[Abdulaziz Alneaimi]

I have a problem understanding the logical way to test returns of pairs trading.​

Say you think your positive pairs trade returns are due to pairs trades you made on small stocks (measured by market capitalization).​

how would you test this hypothesis?​

What regression equations would you use, and what would your null and alternative hypotheses be on the coefficients?​

If your positive pair trade returns are indeed from trades on small stocks, would you expect to accept or reject the null hypotheses for your coefficients?​

 

[John]

Would you show similar positive returns if you apply the same strategy to trading big cap stocks? if you do, you can possibly reject your hypothesis that the positive returns were attributed solely to you pair-trading small stocks.

 

[Joe Ross]

I have a problem understanding the logical way to test returns of pairs trading.​

Say you think your positive pairs trade returns are due to pairs trades you made on small stocks (measured by market capitalization).​

how would you test this hypothesis?​

What regression equations would you use, and what would your null and alternative hypotheses be on the coefficients?​

If your positive pair trade returns are indeed from trades on small stocks, would you expect to accept or reject the null hypotheses for your coefficients?​

Check to make sure the pairs are cointegrated first, you may have just gotten lucky. Try Johansen or Engle-Granger methods.