Trading CDS Indices vs. Equity Index Futures – A pairs trade

Sammanfattning: In this thesis we use a unique data set to show that there is a cointegrating relationship between the EURO STOXX 50 index and the Markit iTraxx Europe index that can be exploited through trading. As far as we know, we are the first ones to write about trading this pair in an academic paper. On our way we deal with various peculiarities in the data set before we manage to find cointegration. The cointegration is evident enough to be utilized when trading the pair. We deal with many practical issues when simulating the trading environment, like marking-to-market of CDS index positions. We successively add more layers of reality to the trading simulation, such as bid-offer-spreads and even in the last step our strategies are highly profitable. Finally, we benchmark our strategies against indices and show that they have low market correlation. This is achieved by introducing an alternative beta measure, customized for the involved assets.