ESG driven pairs algorithm for sustainable trading: Analysis from the Indian market

ArXiv ID: 2401.14761 “View on arXiv”

Authors: Unknown

Abstract

This paper proposes an algorithmic trading framework integrating Environmental, Social, and Governance (ESG) ratings with a pairs trading strategy. It addresses the demand for socially responsible investment solutions by developing a unique algorithm blending ESG data with methods for identifying co-integrated stocks. This allows selecting profitable pairs adhering to ESG principles. Further, it incorporates technical indicators for optimal trade execution within this sustainability framework. Extensive back-testing provides evidence of the model’s effectiveness, consistently generating positive returns exceeding conventional pairs trading strategies, while upholding ESG principles. This paves the way for a transformative approach to algorithmic trading, offering insights for investors, policymakers, and academics.

Keywords: pairs trading, cointegration, Environmental, Social, and Governance (ESG), algorithmic trading, technical indicators, Equities

Complexity vs Empirical Score

  • Math Complexity: 6.5/10
  • Empirical Rigor: 7.5/10
  • Quadrant: Holy Grail
  • Why: The paper uses advanced statistical tests like Engle-Granger cointegration and ADF unit root tests (high math) while providing detailed backtesting results on real Indian market data with specific performance metrics (high rigor).
  flowchart TD
    A["Research Goal: Develop ESG-integrated<br>pairs trading algorithm for Indian equities"] --> B["Data Input: Indian Stock Data<br>+ ESG Ratings"]
    B --> C["Core Methodology: Identify<br>Cointegrated Stock Pairs"]
    C --> D["Algorithm Filter: Select Pairs<br>with High ESG Scores"]
    D --> E["Execution: Apply Technical Indicators<br>for Optimal Trade Timing"]
    E --> F["Back-testing & Analysis"]
    F --> G{"Key Findings & Outcomes"}
    G --> H["Outperforms Conventional<br>Pairs Trading Strategies"]
    G --> I["Generates Consistent<br>Positive Returns"]
    G --> J["Validates Sustainable<br>Investment Framework"]