In this paper, we adapt the demand and supply framework introduced by Figuerola‐Ferretti and Gonzalo (Journal of Econometrics, 2010) to illustrate the dynamics of Pairs‐trading. We underline the process by which a finite elasticity of demand for spread trading determines the speed of mean reversion and pairs‐trading profitability. A persistence‐dependent trading trigger is introduced accordingly. Applied to STOXX Europe 600–traded equities, our strategy exploits price leadership for portfolio replication purposes and delivers Sharpe ratios that outperform the benchmark rules used in the literature. Portfolio performance and mean reversion are enhanced after firm fundamental factor restrictions are imposed.

Financial market participants can benefit from understanding how shocks affect equity mispricings.Energy corporates have been exposed to multiple structural changes over the past decades.This paper applies the pairs trading algorithm of Figuerola-Ferretti et al. (2018) (Journal of FuturesMarkets, 2018) to analyze mean reversion of cointegrated stocks in global energy equity markets.Using daily data covering the US, Europe and Asia we report positive risk adjusted returns thatsupersede their corresponding equity index counterparts. Pairs trading profitability is enhancedwhen filtering stocks with the measure of capital expenditure (CAPEX).