Alternative Trading Strategies

Physica A 534 (2019) 120800
Contents lists available at ScienceDirect
Physica A
journal homepage: www.elsevier.com/locate/physa
Alternative trading strategies to beat ‘‘buy-and-hold’’

∗
Eddie C.M. Hui , Ka Kwan Kevin Chan
Department of Building and Real Estate, The Hong Kong Polytechnic University, Hong Kong
highlights
• We construct two new trading strategies.

• We apply our strategies on 12 stock indices.
• Strategy 3 outperforms the other two strategies in overall.
• This study can help investors to improve their trading strategies.
article info a b s t r a c t
Article history: In the past, many investors believed in the ‘‘buy-and-hold’’ strategy based on the efficient
Received 26 September 2018 market hypothesis (EMH). However, since the global financial crisis in 2008, there has
Received in revised form 2 February 2019 been more and more criticism on the EMH. As a result, many people attempted to find
Available online 7 May 2019
a trading strategy to outperform ‘‘buy-and-hold’’. In particular, Hui and Chan (2017)
Keywords: construct a generalized time-dependent strategy and test it on 12 stock indices, but
Shiryaev–Zhou index they show mixed results. In light of this, this study constructs two new trading strategies.
Trading strategy Instead of buying or selling the stock index immediately when the estimator of Shiryaev–
‘‘Smoothing effect’’ Zhou index µ̂i (n) changes sign as in Hui and Chan (2017)’s strategy, we wait until µ̂i (n)
Transaction cost remains at the same sign for two or three consecutive days before buying or selling the
Moving-window size stock index for our new strategies. This reduces the number of times of trading the stock
index for our strategies. We apply our strategies on six securitized real estate indices and
six general equity indices. The results show that our newly constructed Strategy 3 (after
µ̂i (n) changes sign, we wait until µ̂i (n) remains at the same sign for three consecutive
days before changing our buying/selling position) outperforms the other two strategies
in overall, especially when transaction costs exist. This study can act as a reference for
investors to formulate better trading strategies to earn more profit in this globalized
modern financial market with increasing market fluctuations.
© 2019 Elsevier B.V. All rights reserved.
1. Introduction
In the past, the ‘‘buy-and-hold’’ strategy is believed by many people to be true. One argument for the strategy is the
efficient-market hypothesis (EMH): If every security is fairly valued at all times, then there is really no point to trade [1].
Many studies find evidence which supports the EMH (e.g., [2–5]). However, in recent years, globalization has caused
stronger interrelationship between international financial markets, leading to increasing volatility of the global financial
market and more frequent occurring of financial crises. The global financial crisis in 2008 is the most severe financial crisis
since the Great Depression, leading to the worst ‘recession’ since the 1930s and provoking an unprecedented response
∗ Correspondence to: ZN744, Department of Building and Real Estate, The Hong Kong Polytechnic University, Hong Kong.
E-mail addresses: bscmhui@polyu.edu.hk (E.C.M. Hui), ckkwyc@yahoo.com.hk (K.K.K. Chan).
https://doi.org/10.1016/j.physa.2019.04.036
0378-4371/© 2019 Elsevier B.V. All rights reserved.
2 E.C.M. Hui and K.K.K. Chan / Physica A 534 (2019) 120800
from national states and central banks [6]. The global financial crisis is originated to large extent in ‘‘the New York-
London axis’’ [7]. The origin of the crisis is the financial turbulence within the US subprime mortgage market, which
has caused profound disruptions across the housing and real estate sectors that have intensified uneven development
and spread economic chaos around the world [8]. The U.S. housing prices began to fall in late 2006, leading to the
subprime crisis in 2007, which turned into the global financial crisis in September 2008 [9] when Lehman Brothers
declared bankruptcy. Chatterjee and Eyigungor [10] present a model of long-duration collateralized debt with risk of
default to account for the foreclosure crisis in the U.S. They find that the financial friction shock accounts for much of
the house price decline while the foreclosure delays account for bulk of the rise in foreclosures. Significant evidence of
contagion is found across different markets (e.g. [11–14]), so the impact of the global financial crisis is worldwide. Scholars
criticize the EMH for causing financial leaders to have a chronic underestimation of the dangers of asset bubbles breaking,
and unjustified faith in rational expectations and market efficiencies is one of the causes of the global financial crisis. If
the EMH is false, then ‘‘buy-and-hold’’ may not be the optimal strategy, so some investors look for an alternative trading
strategy which outperforms ‘‘buy-and-hold’’. If such strategies exist, then the weak form of EMH is no longer true. This
is the motivation of our study.
The Shiryaev–Zhou index derived by Shiryaev et al. [15] is adopted by a number of studies to attempt to construct
a trading strategy that outperforms the ‘‘buy-and-hold’’ strategy [11,16,17]. They show mixed results. All of these three
studies use the same moving-window size 130 for their strategies. However, this may not be the optimal moving-window
size as stock prices are volatile in reality. The optimal moving-window size may vary among different stocks/stock indices,
too. In light of this, Hui and Chan [18] construct a new, generalized time-dependent trading strategy with variable moving-
window size. They find that their strategy outperforms the ‘‘buy-and-hold’’ strategy for slightly more than half of the
cases. Hui and Chan [19] apply the same strategy on 12 Hong Kong listed stocks within the whole period of observation
and two sub-periods. The overall result is mixed in general.
The major problem of the strategies described above is that an investor has to buy a stock (or stock index) as soon as
the estimator of the Shiryaev–Zhou index µ̂i (or µ̂i (n)) changes from negative to positive, and sell it as soon as µ̂i changes
from positive to negative. Since µ̂i changes sign very frequently, we have to buy and sell the stock for many times. Hence
there is a higher chance that the strategies underperform ‘‘buy-and-hold’’, especially when transaction costs exist (see
Section 2 for explanation).
In this study, based on Hui and Chan [18]’s time-dependent strategy, we construct new trading strategies of which we
wait until µ̂i (n) remains at the same sign for a certain number of consecutive days before changing our buying/selling
position. This can reduce the number of times of trading the stock (this is called ‘‘smoothing effect’’ in this study) in order
to cope with the increasing market fluctuations. In this way, we aim to increase the resulting profit of our strategies,
especially when transaction costs exist. However, if the number of consecutive days of which µ̂i (n) remains at the same
sign before changing our buying/selling position is too large, our new strategies would lag behind the real trend of the
stock/stock index more, reducing the profit of the strategies and cancelling out the ‘‘smoothing effect’’. Therefore, a suitable
number of consecutive days of which µ̂i (n) remains at the same sign before changing our buying/selling position should
be chosen. Y. C. Chan invents a trading strategy as follows [20]: if the 2-day moving-average of a stock rises above its
19-day moving average, then buy the stock. If its 2-day moving-average falls below the 19-day moving average, then sell
the entire stock. Applying this strategy on Hang Seng Index from January 3, 2000 to December 31, 2013, 50.43% profit
is earned (without transaction costs), outperforming the 32.41% profit earned by the ‘‘buy-and-hold’’ strategy [20]. This
strategy is analogue to Strategy 2 in this study of which we change out buying/selling position when µ̂i (n) remains at the
same sign for two consecutive days. In order to investigate the effect of waiting for one more day, we set the maximum
number of consecutive days of which µ̂i (n) remains at the same sign before changing our buying/selling position to
be three (see Section 5 for details), and construct two new trading strategies of which we wait until µ̂i (n) remains at
the same sign two and three consecutive days respectively before changing our buying/selling position. We expect that
these two new strategies outperform Hui and Chan [18]’s time-dependent strategy. This study fills in the knowledge gap
whereby our newly constructed strategies can outperform Hui and Chan [18]’s time-dependent strategy, and can act as
a reference for investors to formulate better trading strategies to earn more profit in this globalized modern financial
market with increasing market fluctuations.
The paper proceeds as follows: Section 2 presents the literature review. Section 3 describes the formula of the Shiryaev–
Zhou index and its statistical estimation. Section 4 describes the data source. Our trading strategies are described in
Section 5. Section 6 displays the results. Finally, we draw a conclusion in Section 7.
2. Literature review
In this section, we present a review of previous studies on portfolio optimization/investment models/trading strategies.
In particular, trading strategies derived from the Shiryaev–Zhou index are discussed. We discuss their drawbacks and
how they are improved in later studies. We also explain how our new trading strategies are constructed so as to make
an improvement over previous trading strategies.
The study of portfolio optimization dates back to the 50 s. Markowitz [21] is the first to work on portfolio optimization
and introduces the mean–variance modern portfolio theory (MPT). Since then, a number of dynamic investment models,
like the Merton portfolio [22,23] and the continuous-time Markowitz model [24], are developed. However, they do not
E.C.M. Hui and K.K.K. Chan / Physica A 534 (2019) 120800 3
lead to the pure ‘‘buy-and-hold’’ strategy. Lehmann [25] shows that a contrarian can make substantial profits in the
short run by simply buying losers and selling winners. Conrad et al. [26], however, show that these profits are largely
generated by the bid–ask bounce in transaction prices; accounting for this ‘‘bounce’’ by using bid prices eliminates
all profits from price reversals for NASDAQ-NMS stocks and most of the profits for NYSE/AMEX stocks. Furthermore,
any remaining profits (regardless of their source) disappear at trivial levels of transactions costs. Liehr and Pawelzik
[27] derive an optimal trading strategy with variable investment for minimizing the risk to profit ratio. They test their
strategy on DAX and S&P indices using different types of prediction models in comparison. Bao and Yang [28] utilize
high-level representation (turning point and technical indicators) and combine it with a probabilistic model to reduce
the randomness and uncertainty of a chaotic system. Through investigating the yield structure between broad asset
classes and the implications for portfolio allocation decisions and real estate investment, Cheng et al. [29] construct a
theoretical model to determine the optimal holding period for real estate investment. They find that higher illiquidity
and transaction costs result in longer holding periods, while higher return volatility leads to shorter holding periods,
ceteris paribus. Mori and Ziobrowski [30] compare the performance of pairs trading between the U.S. REIT and general
stock markets during 1987–2008. They find that the REIT market outperforms stocks for the strategy when the effect
of the bid–ask bounce during the period 1993–2000 is taken into account. Gallo et al. [31] apply cointegration methods
to derive globally diversified real estate portfolios which outperform the mean–variance optimized portfolio. Hui et al.
[32] test calendar effects of 27 international real estate securitized indices from 20 countries and regions. The standard
method of linear regression shows significant calendar effects. However, the White’s Reality Check and Hansen’s Superior
Predictive Ability tests reveals that the calendar effects are insignificant. Cartea et al. [33] develop a high frequency (HF)
trading strategy where the HF trader uses her superior speed to process information and to post limit sell and buy orders.
They show that HF traders who do not include predictors of short-term-alpha in their strategies are driven out of the
market because they are adversely selected by better informed traders and because they are not able to profit from
directional strategies. Herdegen and Herrmann [34] study the optimal investment problem for an investor with constant
relative risk aversion in a model of bubble. They show that for positive instantaneous expected returns, investors with
relative risk aversion above one always ride the bubble.
However, most of the above trading strategies neglect that past stock price trends may affect future trends. There-
fore, Deremble et al. [35] derive a back-tested strategy: if an asset price is above its five-month average, buy it. Otherwise,
go short on it. Switch positions if its price falls below (or rises above) the five-month average. This strategy provides a
positive return over all long periods and over each decade in the sample and beats the ‘‘buy-and-hold’’ strategy, too. The
approach of this study is similar to that of Deremble et al. [35]. However, instead of simply taking the five-month average
of stock prices, we make use of the Shiryaev–Zhou index. The advantage of using the Shiryaev–Zhou index over Deremble
et al. [35]’s back-tested strategy is that the index is derived from the problem of minimizing the time between the selling
and maximum prices of the stock, so the method is more precise (see Section 5 for explanation). Shiryaev et al. [15] use
the probabilistic approach to derive a ‘‘goodness index’’ γ of a stock, and work out the optimal selling time (see Section 3
for details). Du Toit and Peskir [36] apply another probabilistic approach to obtain the same result. Yam et al. [37,38,39]
resolve the same problem using the techniques in solving the secretary problem and derive the Shiryaev–Zhou index,
which is smaller than the ‘‘goodness index’’ by 1/2.
All of the above methods assume the drift (or return) and volatility to be constants. In reality, however, the market
fundamentals keep on changing. Hence it is more reasonable to assume that the parameters vary in time. Wong et al. [40]
develop a dynamic bang–bang strategy in which the parameters of the return distribution vary over time. Their strategy
outperforms ‘‘buy-and-hold’’ on the CRSP, FTSE 100 and Hang Seng indices provided that the parameter λ is estimated
by recent returns (in this way, the methods of Wong et al. 2012 and Deremble, 2014 are similar). The sign of λ is the
same as that of the Shiryaev–Zhou index [40] and determines the optimal buying/selling time of a stock. This makes up
the theoretical and conceptual framework of this study.
Hui et al. [41] is the first to put Shiryaev–Zhou index into practice, and apply it on several Hong Kong listed property
stocks. They only work out the latest selling dates of each stock, but the resulting profit is not calculated. Hui and Yam [16]
use the Shiryaev–Zhou index to derive a trading strategy, and test it on four European and North American securitized
real estate indices. They show that their strategy generally outperforms the ‘‘buy-and-hold’’ strategy. Hui et al. [11] test
the same strategy on six Asian securitized real estate indices and find similar results. However, Hui and Chan [17] find
mixed results when the same strategy is applied on Hong Kong listed stocks: the strategy still beats ‘‘buy-and-hold’’ in
general for property stocks, but is outperformed by ‘‘buy-and-hold’’ for most non-property stocks, in particular with the
presence of transaction costs.
Hui and Yam [16], Hui et al. [11] and Hui and Chan [17] all use a fixed moving-window size (n = 130) to calculate the
estimator of the Shiryaev–Zhou index and derive their trading strategy. Therefore, if transaction costs remain unchanged,
the resulting profit is fixed. Due to high volatility of stock prices, if a different moving-window size is used, the estimator
and hence the resulting profit derived by the strategy may change. In light of this, Hui and Chan [18] construct a new,
generalized time-dependent trading strategy with variable moving-window size, and apply the strategy on 12 stock
indices (6 securitized real estate indices and 6 general equity indices). The optimal moving-window size of their strategy
for each stock index is calculated. They find that if the optimal moving-window sizes are used, their strategy beats ‘‘buy-
and-hold’’ for most cases. The same strategy is applied by Hui and Chan [19] on 12 stocks listed in Hong Kong. The
optimal moving-window size for each stock is worked out for the whole period of observation and for two sub-periods.
They find that when the sub-period December 31, 2004–December 31, 2008 is selected, their strategy outperforms the
‘‘buy-and-hold’’ strategy for most stocks. However, when the sub-period December 31, 2004–December 31, 2012 is used,
their strategy underperforms ‘‘buy-and-hold’’ for most cases.
The above strategies [11,16–19,41] have a common drawback that one has to buy a stock (or stock index) immediately
when the estimator of the Shiryaev–Zhou index µ̂i (or µ̂i (n)) changes from negative to positive, and sell it immediately
when µ̂i changes from positive to negative. However, due to high volatility of stock prices, µ̂i changes sign very frequently,
so one has to trade the stock for a lot of times. Since µ̂i lags behind the stock price [17], it is possible that the stock price
is rising even when µ̂i is negative. In this case the strategies will underperform ‘‘buy-and-hold’’ on day i. When there
are more transaction costs, the strategies are more likely to underperform the ‘‘buy-and-hold’’ strategy [17]. In order to
solve this problem, we construct two new trading strategies based on Hui and Chan [18]’s time-dependent strategy. When
µ̂i changes sign, we do not buy or sell the stock immediately. Instead, we buy (or sell) the stock only when µ̂i remains
positive (or negative) for two or three consecutive days (the details of our strategies are described in Section 5). In this
way, the number of times of trading the stock can be reduced and the resulting profit of our strategies may increase,
especially when transaction costs exist.
3. The Shiryaev–Zhou index and its statistical estimation
The Shiryaev–Zhou index is derived from the problem of minimizing the time between the selling and maximum prices
of the stock:
Sτ
V ∗ = max E[ ] (3.1)
0≤τ ≤T ST
where E denotes the expectation function and ST = max0≤s≤t Ss is the maximum stock price during the period [0, t].
The solution to problem (3.1) is t ∗ = T when γ ≥ 12 , and t ∗ = 0 otherwise, where t ∗ is the optimal selling time, and
γ is the ‘‘goodness index’’ of the stock [15].
Yam et al. [37,38,39] resolve (3.1) and show that t ∗ = T when µ ≥ 0, and V ∗ = 0 otherwise, where µ is the
Shiryaev–Zhou index defined by [11,16–19,37–39,41]:
µ = (α − 0.5σ 2 )/σ 2 = α/σ 2 − 0.5, (3.2)
where α , σ are the annual growth rate (or drift) and annual volatility of the stock respectively (α, σ are constants).
The above two trading strategies are identical as γ = µ + 12 .
In reality, the drift α and volatility σ are always varying. Their exact values are normally not known. Thus, we adopt
the moving-window approach [11,18,19]:
The continuously compounded daily return of a stock on day i, ri (i ≥ 2) is given by:
( )
Si
ri = log , (3.3)
Si−1
where Si is the stock’s closing price on day i.
The average daily return of the stock on day i is estimated by the sample mean:
n
1∑
r i (n) = ri−n+j (3.4)
n
j=1
Assuming 250 trading days in a year, the estimator of α on day i is:
α̂i (n) = 250r i (n) (3.5)
The daily variance of the stock on day i is estimated by the sample variance:
n
1 ∑ )2
s2i (n) = ri−n+j − r j (n)
(
(3.6)
n−1
j=1
Thus, the estimator of the variance σ 2 on day i is:
σ̂i2 (n) = 250s2i (n) (3.7)
The estimator of the Shiryaev–Zhou index µ on day i is then derived:

α̂i (n) − 0.5σ̂i2 (n) α̂i (n)
µ̂i (n) = = 2 − 0.5. (3.8)
σ̂i2 (n) σ̂i (n)
Table 1
The stock indices we choose.
Economy General equity index Securitized real estate index
Hong Kong Hang Seng Index (HSI) FTSE EPRA/NAREIT Hong Kong Index (ELHK)
Japan Nikkei 225 Index (TPX) FTSE EPRA/NAREIT Japan Index (ELJP)
U.S. S&P 500 Index (SPX) FTSE EPRA/NAREIT US Index (UNUS)
U.K. FTSE 100 Index (UKX) FTSE EPRA/NAREIT UK Index (ELUK)
France CAC 40 Index (CAC) FTSE EPRA/NAREIT France Index (EPFR)
Germany DAX Index (DAX) FTSE EPRA/NAREIT Germany Index (EPGR)
Table 2
The action of Strategy 1 from Day 2 to the second last day.
µ̂i−1 (n) µ̂i (n) Action
≥0 ≥0 No action (keep holding one unit of the stock/stock index)
≥0 <0 Sell the entire one unit of the stock/stock index we hold
<0 ≥0 Buy one unit of the stock/stock index
<0 <0 No action (keep holding entire cash)
4. Data
The period of observation is December 29, 1995–December 31, 2016, a total of 5481 observations. Since the largest
moving-window size in this study is 240 days, the calculation of the estimated value of Shiryaev–Zhou index µ̂i (n) on
day i using the moving-window size n = 240 requires the stock price on day i − 240 to be known. Hence we trace back
the timeline by 240 days, i.e. back to January 27, 1995.
Next, we select stock indices. 6 major, developed economies are chosen. We select 4 economies from Europe and North
America and 2 from Asia. U.S. is the largest economy in the world and its NYSE (New York Stock Exchange) has the largest
market cap out of all stock exchanges in the world, so it is chosen. U.K., France, Germany are the three largest economies
in Europe, and their stock exchanges are also the largest in Europe, so they are selected, too. For Asia, we select Japan and
Hong Kong, which rank 1st and 3rd among Asian stock exchanges respectively. China has the 2nd largest stock exchange
in Asia, but its financial market is not totally free, and it does not have a securitized real estate index which belongs to
the FTSE EPRA/NAREIT Global Real Estate Index Series, so it is not chosen. We select one securitized real estate index
and one general equity index from Bloomberg for each economy, making up a total of 12 stock indices, which are shown
in Table 2. The six general equity indices consist of the most frequently traded stocks in the corresponding economies
and are commonly accepted as benchmarks. All of the six securitized real estate indices belong to the FTSE EPRA/NAREIT
Global Real Estate Index Series. They consist of the most frequently traded real estate securities in the corresponding
economies, so they can truly reflect the performance of the overall property market of the corresponding economies (see
Table 1).
5. Our trading strategies
Here we use the estimator µ̂i (n) of the Shiryaev–Zhou index to construct three trading strategies. The following two
assumptions are made:
(1) The transaction price (buying and selling price) of a stock index is its closing price (adjusted for dividend and split)
on that day.
(2) The amount of cash held at time t = 0 is adequate to cover all transactions during the period.
The first strategy is as follows Hui and Chan [18,19]:
1. On day 1, if µ̂1 (n) ≥ 0, buy one unit of the stock index. Otherwise, take no action.
2. From day 2 to the second last day of the period, trade the stock index according to Table 2:
3. On the final day of the period, sell the entire one unit of the stock index if one is still holding the one unit of the
stock index. Otherwise, do not take any action.
This strategy is the same as Hui and Chan [18,19]’s time-dependent strategy and is denoted by Strategy 1. From (3.8), α̂i (n)
is the n-day moving average of the continuously compounded daily return of the stock, so Strategy 1 is, in fact, analogue
to Deremble et al. [35]’s back-tested strategy. However, the critical value of α̂i (n) is 0.5σ̂i2 (n) (see (3.8)) instead of 0.
Since the Shiryaev–Zhou index is derived from the problem of minimizing the time between the selling and maximum
prices of the stock, Strategy 1 is more precise than Deremble et al. [35]’s back-tested strategy. Furthermore, we use a
variable moving-window size in contrast to Deremble et al. [35]’s fixed moving-window size (fixed at 5 months).
As mentioned before, since µ̂i (n) changes sign very frequently, one has to trade the stock index for a lot of times
when he/she adopts Strategy 1, so this strategy may underperform ‘‘buy-and-hold’’, especially when transaction costs
exist. Therefore, we construct new trading strategies of which we wait until µ̂i (n) remains at the same sign for a number
of consecutive days before changing our buying/selling position. However, the suitable number of consecutive days before
changing our buying/selling position depends on the trend of the stock/stock index. If the stock/stock index keeps on rising
or falling for a number of consecutive days, then µ̂i (n) also remains at the same sign for a number of consecutive days,
so it is better to buy or sell the stock/stock index immediately when µ̂i (n) changes sign, i.e. the optimal number of
consecutive days before changing our buying/selling position is 1. On the other hand, suppose the stock price rises from
$1 on day 1 to $2 on day 2, falls back to $1 on day 3, but rises to $2 again on day 4, etc., then µ̂i (n) changes sign every
day. If an investor buys or sells the stock immediately when µ̂i (n) changes sign, he/she would incur a huge loss. In this
case, the optimal number of consecutive days before changing our buying/selling position is greater than 1. Y. C. Chan
invents a trading strategy which is similar to Deremble et al. [35]’s. His trading strategy is as follows [20]: if the 2-day
moving-average of a stock rises above its 19-day moving average, then buy the stock. If its 2-day moving-average falls
below the 19-day moving average, then sell the entire stock. Applying this strategy on Hang Seng Index from January 3,
2000 to December 31, 2013, 50.43% profit is earned (without transaction costs), outperforming the 32.41% profit earned by
the ‘‘buy-and-hold’’ strategy [20]. As explained in Section 2, Strategy 1 is an analogue to Deremble et al. [35]’s strategy.
Similarly, Y. C. Chan’s strategy would be analogue to a strategy that after µ̂i (n) changes sign, an investor waits until
µ̂i (n) remains at the same sign for 2 consecutive days, then he/she buy or sell the stock. However, if we wait for one
more day, would we earn more profit? This is an interesting topic to investigate. Therefore, we set the maximum number
of consecutive days µ̂i (n) remains at the same sign before changing our buying/selling position for our strategies to be
three, and construct two new trading strategies.
For the first strategy, after µ̂i (n) changes sign, we wait until the sign of µ̂i (n) remains unchanged for 2 consecutive
days, then we buy or sell the stock index. This is called Strategy 2 in this study:
2. On day 2, do not take any action.
3. From day 3 to the second last day of the period (denote that day by day i):
(a) If one is holding entire cash, then buy one unit of the stock index if µ̂i (n) ≥ 0 on both day i-1 and day i.
Otherwise, do not take any action.
(b) If one is holding one unit of the stock index, then sell the entire one unit of the stock index if µ̂i (n) < 0 on
both day i-1 and day i. Otherwise, do not take any action.
For the second strategy, after µ̂i (n) changes sign, we wait until the sign of µ̂i (n) remains unchanged for 3 consecutive
days, then we buy or sell the stock index. This is called Strategy 3 in this study:
2. On both day 2 and day 3, do not take any action.
3. From day 4 to the second last day of the period (denote that day by day i):
(c) If one is holding entire cash, then buy one unit of the stock index if µ̂i (n) ≥ 0 on day i-2, day i-1 and day i.
Otherwise, do not take any action.
(d) If one is holding one unit of the stock index, then sell the entire one unit of the stock index if µ̂i (n) < 0 on
day i-2, day i-1 and day i. Otherwise, do not take any action.
For the above three strategies, the following three cases of amount of transaction costs are considered:
(1) No transaction costs.

(2) 0.1% of the transaction price.
(3) 0.2% of the transaction price.
Unlike Strategy 1 in which one has to buy a stock index as soon as µ̂i (n) changes from negative to positive, and sell
it as soon as µ̂i (n) changes from positive to negative, for Strategies 2 and 3, when µ̂i (n) changes sign, we wait until the
sign of µ̂i (n) remains unchanged for 2 or 3 consecutive days before buying or selling the stock index. In this way, the
number of times of trading the stock index is greatly reduced (especially for Strategy 3), creating a ‘‘smoothing effect’’,
so the resulting profit of Strategies 2 and 3 is expected to be larger than that of Strategy 1, in particular when there are
transaction costs. We will verify whether Strategies 2 and 3 outperform Strategy 1 for the 12 stock indices under 0%, 0.1%
and 0.2% transaction costs in the next section.
6. Results
We apply the three strategies described in Section 5 and the ‘‘buy-and-hold’’ strategy on the 12 stock indices selected
in Section 4 during the whole period. We select 6 different moving-window sizes n for Strategies 1, 2 and 3: 40, 80, 120,
160, 200, 240, and consider all the 3 cases of different amounts of transaction costs mentioned in Section 4 (0%, 0.1% and
0.2%). The results are shown in Tables 3–5.
From the Tables 3–5, the results of the strategies are mixed. In overall, the strategies outperform the ‘‘buy-and-hold’’
strategies for roughly a half of the cases. The strategies are more likely to beat ‘‘buy-and-hold’’ for the six securitized
real estate indices than for the six general equity indices. In particular, for ELUK and EPGR indices, the three strategies
outperform ‘‘buy-and-hold’’ in all cases. On the other hand, for UKX index, the three strategies underperform ‘‘buy-and-
hold’’ in all cases, except for Strategy 3 when n = 240 and there are no transaction costs. As in Hui and Chan [18,19],
when the amount of transaction costs increases, the resulting profits of our three strategies decrease by a larger extent
than the profit of the ‘‘buy-and-hold’’ strategy. The reason for this result is explained in Hui and Chan [18].
Next, we compare the resulting profits of Strategies 1, 2 and 3. From Tables 3–5, Strategy 2 outperforms Strategy 1
for about half of the cases, showing that these two strategies are almost equally well. Meanwhile, Strategy 3 yields the
greatest profit in overall. In particular, Strategy 3 outperforms the other two strategies in most cases for five indices:
EPFR, EPGR, SPX, UKX and CAC. This shows that Strategy 3 is the best of the three strategies. Comparing the results in
Tables 3–5, we can see that the number of times of buying and selling the stock index is smaller for Strategy 2 than for
Strategy 1, and this number is further reduced for Strategy 3. By waiting for two or three consecutive days that µ̂i (n)
remains at the same sign before buying or selling the stock index, a ‘‘smoothing effect’’ of which the number of times of
trading the stock index is reduced, so the probability that we do not hold the stock index for the strategy, but the stock
index is still rising decreases. However, this ‘‘smoothing effect’’ is very small for Strategy 2. In Strategy 3, the number of
consecutive days that µ̂i (n) remains at the same sign before trading the stock index increases to three days. This creates
a greater ‘‘smoothing effect’’ that increases the profit of the strategy.
We can also see the relationship between the amount of transaction costs and the profits of the three strategies.
When the amount of transaction costs increases, Strategy 2 and, in particular, Strategy 3, are more likely to outperform
Strategy 1. For example, for UKX index with moving-window size 120, Strategy 1 outperforms Strategies 2 and 3 without
transaction costs. With 0.1% transaction costs, Strategy 1 outperforms Strategy 2, but underperforms Strategy 3. When
there are 0.2% transaction costs, Strategy 1 underperforms both Strategies 2 and 3. This is because the number of times
of buying and selling the stock index is smaller for Strategy 2 than for Strategy 1, and this number is further reduced for
Strategy 3. Thus the total amount of transaction costs incurred for Strategy 2 is smaller than that incurred for Strategy 1,
and this amount incurred for Strategy 3 is even smaller. As a result, the decrease in profit for Strategy 2 due to increase
in transaction costs would be smaller than that for Strategy 1, so there is a greater chance that Strategy 2 outperforms
Strategy 1. By the same reason, Strategy 3 is more likely to outperform Strategies 1 and 2 when the amount of transaction
costs increases.
Tables 3–5 also show that Strategies 2 and 3 are more likely to outperform Strategy 1 when the moving-window size
decreases. According to Hui and Chan [18], increasing the moving-window size would result in a ‘‘smoothing effect’’,
reducing the fluctuation of µ̂i (n). Hence we can see from Table 3, 4 and 5 that in general, the number of times of buying
and selling the stock index for the three strategies is larger for smaller moving-window sizes. When the number of times
of trading the stock index for Strategy 1 is larger, the number of times of trading the stock index for Strategy 2 and,
in particular, for Strategy 3, would decrease by a larger extent. This would create a larger ‘‘smoothing effect’’, especially
when the amount of transaction costs increases. Furthermore, µ̂i (n) in fact lags behind the stock price. When the moving-
window size is smaller, µ̂i (n) will lag behind the stock price by a smaller extent, so this ‘‘lagging effect’’ is less likely to
cancel out the ‘‘smoothing effect’’. Therefore, the probability that Strategies 2 and 3 outperform Strategy 1 would increase.
Tables 3–5 show that Strategies 2 and 3 are more likely to outperform ‘‘buy-and-hold’’ for the general equity indices
than for the securitized real estate indices. If we have a closer look at the tables, we can find that the number of times
of trading the six general equity indices for Strategy 1 (and also for Strategies 2 and 3) is greater than the number of
times of trading the six securitized real estate indices for the same strategy. From the above analysis, when the number
of times of trading the stock index for Strategy 1 increases, Strategies 2 and 3 would have a greater chance to outperform
the ‘‘buy-and-hold’’ strategy. This explains the result. The result that the general equity indices having a larger number of
times of trading the indices for Strategy 1 may be contributed to the fact the general equity indices have a higher liquidity
than the securitized real estate indices do Hui and Chan [18], so they have a higher volatility and hence their estimators
of the Shiryaev–Zhou index µ̂i (n) fluctuate more frequently.
7. Conclusion
In this study, we apply Hui and Chan [18]’s generalized time-dependent trading strategy and two newly constructed
strategies on the securitized real estate and general equity indices of six economies: Hong Kong, Japan, U.S., U.K., France,
Germany, during the period December 29, 1995–December 31, 2016. The following lists out the main results:
(1) Out of the three strategies, Strategy 3 yields the greatest profit overall, so it is the best strategy.
(2) When the amount of transaction costs increases, Strategies 2 and 3 are likely to outperform Strategy 1.
(3) Strategies 2 and 3 have a higher probability to outperform Strategy 1 with smaller moving-window sizes.
(4) Strategies 2 and 3 are more likely to outperform Strategy 1 for general equity indices than for securitized real estate
indices.
Table 3
Comparison between the profits of Strategy 1 and ‘‘buy-and-hold’’.
ELHK
Moving-window size 40 80 120 160 200 240 buy-and-hold
No transaction costs 2630.18 2278.16 2542.95 1902.26 1213.97 1478.46 1026.23
406.54% 352.13% 393.06% 294.03% 187.64% 228.52% 158.62%
0.1% transaction costs 2256.35 1996.98 2345.14 1757.95 1074.48 1340.71 1023.91
348.41% 308.36% 362.12% 271.45% 165.92% 207.02% 158.11%
290.40% 264.68% 331.25% 248.92% 144.23% 185.57% 157.59%
No. of times of buying (or selling) the stock index for Strategy 1 142 111 77 58 57 51
Average no. of times of buying (or selling) the stock index for Strategy 1: 82.67
ELJP
119.74% 59.34% 47.31% 136.86% 72.66% 66.69% 97.51%
73.12% 27.74% 17.28% 112.91% 52.05% 47.01% 97.11%
0.2% transaction costs 395.45 −56.39 −188.79 1322.85 467.81 406.87 1437.61
26.60% −3.79% −12.70% 89.00% 31.47% 27.37% 96.72%
UNUS
187.77% 147.13% 182.53% 188.72% 209.99% 95.94% 210.03%
126.19% 105.17% 144.11% 159.53% 188.52% 73.29% 209.41%
64.74% 63.30% 105.78% 130.39% 167.09% 50.69% 208.79%
ELUK
173.65% 142.18% 231.51% 215.38% 195.85% 153.10% 61.28%
130.13% 110.73% 209.74% 199.72% 185.41% 143.29% 60.95%
86.70% 79.33% 187.49% 184.09% 174.99% 133.49% 60.63%
EPFR
614.62% 396.47% 478.85% 433.12% 395.27% 381.35% 507.47%
510.61% 317.03% 396.96% 375.84% 345.03% 334.70% 506.26%
406.81% 237.74% 315.23% 318.68% 294.89% 288.14% 505.05%
EPGR
158.81% 132.99% 196.16% 199.30% 216.11% 266.78% 13.98%
108.70% 112.07% 166.81% 94.74% 195.68% 232.67% 13.75%
53.35% 91.20% 137.53% 80.11% 175.30% 218.20% 13.52%
(continued on next page)
Table 3 (continued).
HSI
281.92% 107.83% 125.37% 96.62% 129.29% 161.51% 118.40%
232.60% 65.12% 87.04% 69.78% 104.90% 142.71% 117.97%
183.39% 22.50% 48.78% 42.99% 80.56% 123.96% 117.53%
NKY
No transaction costs 4057.61 7801.48 11608.51 2917.44 5280.70 7906.73 −753.78
20.42% 39.27% 58.43% 14.68% 26.58% 39.80% −3.79%
0.1% transaction costs −1162.19 4422.18 8861.35 742.90 2746.20 6489.40 −792.76
−5.84% 22.24% 44.56% 3.74% 13.81% 32.63% −3.99%
0.2% transaction costs −6381.99 1042.88 6114.19 −1431.64 211.70 5072.06 −831.75
−32.06% 5.24% 30.71% −7.19% 1.06% 25.48% −4.18%
SPX
63.74% 63.59% 256.80% 230.11% 248.00% 191.50% 263.49%
0.1% transaction costs −152.52 21.56 1379.02 1245.22 1392.99 1010.99 1620.05
−24.74% 3.50% 223.67% 201.97% 225.93% 163.98% 262.76%
0.2% transaction costs −697.66 −348.52 1176.36 1073.14 1258.45 842.48 1617.19
−113.04% −56.47% 190.61% 173.88% 203.91% 136.51% 262.04%
UKX
No transaction costs −1090.36 −276.76 2667.16 119.95 3140.19 3267.77 3453.53
−29.55% −7.50% 72.29% 3.25% 85.12% 88.57% 93.61%
0.1% transaction costs −3414.31 −1972.92 1435.49 −1164.24 1986.75 2519.94 3442.70
−92.45% −53.42% 38.87% −31.53% 53.80% 68.24% 93.22%
−155.23% −99.25% 5.51% −66.23% 22.54% 47.94% 92.84%
CAC
122.29% 144.06% 199.32% 230.35% 257.40% 226.82% 159.74%
33.39% 89.63% 157.58% 200.33% 228.22% 204.99% 159.22%
−55.33% 35.31% 115.93% 170.38% 199.10% 183.20% 158.71%
DAX
370.78% 203.70% 429.42% 440.86% 379.14% 459.52% 407.86%
265.78% 125.21% 381.40% 414.24% 345.19% 442.08% 406.84%
160.98% 46.88% 333.48% 387.67% 311.30% 424.68% 405.83%
In light of mixed results of Hui and Chan [18]’s generalized time-dependent strategy, this study constructs two new
trading strategies with the number of times of stock index trading reduced, hoping that this would increase profits. Our
results show that Strategy 3 outperforms the other two strategies. In other words, it is the best trading strategy. The key
Table 4
ELHK
257.82% 312.18% 324.70% 252.94% 212.67% 210.76% 158.62%
222.32% 284.20% 304.62% 237.66% 199.76% 196.18% 158.11%
186.89% 256.27% 284.58% 222.41% 186.87% 181.63% 157.59%
ELJP
116.12% 6.42% 28.97% 107.49% 27.15% 50.78% 97.51%
0.1% transaction costs 1329.73 −180.72 168.65 1406.49 207.90 577.47 1442.03
89.55% −12.17% 11.36% 94.72% 14.00% 38.89% 97.11%
63.03% −30.72% −6.22% 81.98% 0.88% 27.02% 96.72%
UNUS
177.54% 168.26% 232.53% 176.50% 160.64% 116.30% 210.03%
143.77% 143.16% 212.83% 162.35% 148.61% 102.26% 209.41%
110.06% 118.12% 193.16% 148.23% 136.60% 88.24% 208.79%
ELUK
184.75% 125.61% 226.72% 201.24% 160.91% 161.23% 61.28%
158.62% 107.54% 215.70% 190.62% 153.72% 155.25% 60.95%
132.53% 89.51% 204.70% 180.02% 146.55% 149.29% 60.63%
EPFR
420.35% 315.68% 449.85% 450.30% 407.80% 351.63% 507.47%
362.85% 271.54% 404.64% 419.43% 382.40% 325.38% 506.26%
305.46% 227.49% 359.53% 388.62% 357.05% 299.18% 505.05%
EPGR
105.30% 125.89% 146.72% 216.25% 229.28% 245.49% 13.98%
75.35% 113.86% 127.86% 203.76% 218.53% 237.25% 13.75%
45.45% 101.85% 109.04% 191.29% 207.79% 229.02% 13.52%

HSI
187.58% 123.53% 168.60% 145.83% 145.78% 132.72% 118.40%
157.83% 100.80% 147.89% 130.13% 132.27% 122.41% 117.97%
128.15% 78.12% 127.22% 114.45% 118.78% 112.11% 117.53%
NKY
23.00% 30.08% 40.93% 18.17% 20.71% 31.55% −3.79%
0.1% transaction costs 1678.61 4081.28 6713.92 2300.92 2701.69 5284.15 −792.76
8.44% 20.52% 33.76% 11.57% 13.58% 26.57% −3.99%
−6.09% 10.98% 26.60% 4.98% 6.47% 21.60% −4.18%
SPX
65.01% 76.78% 282.54% 243.40% 266.19% 239.44% 263.49%
16.06% 43.95% 261.06% 228.38% 252.97% 225.99% 262.76%
−32.80% 11.19% 239.62% 213.40% 239.78% 212.57% 262.04%
UKX
No transaction costs −1612.06 20.78 1645.56 −545.47 2030.13 3137.42 3453.53
−43.70% 0.56% 44.60% −14.79% 55.03% 85.04% 93.61%
−80.08% −25.75% 26.16% −35.65% 37.45% 73.20% 93.22%
−116.39% −52.01% 7.74% −56.48% 19.90% 61.39% 92.84%
CAC
139.63% 162.51% 251.59% 193.48% 296.78% 256.36% 159.74%
97.08% 130.16% 230.78% 175.26% 280.40% 243.55% 159.22%
54.61% 97.87% 210.01% 157.09% 264.05% 230.76% 158.71%
DAX
230.61% 278.96% 394.84% 440.83% 466.98% 467.70% 407.86%
173.48% 237.64% 361.89% 423.33% 452.07% 456.65% 406.84%
116.47% 196.41% 329.00% 405.86% 437.19% 445.63% 405.83%
idea of Strategy 3 is that rather than buying or selling the stock index immediately when µ̂i (n) changes sign as in Hui
and Chan [18]’s strategy, we wait until µ̂i (n) remains at the same sign for three consecutive days. This is an analogue
to Y. C. Chan’s strategy (see Section 5), but we wait for one more day and use larger moving-window sizes for µ̂i (n)
Table 5
ELHK
379.15% 345.29% 323.12% 279.26% 173.54% 126.57% 158.62%
353.19% 326.60% 309.33% 266.75% 165.03% 114.23% 158.11%
327.28% 307.94% 295.57% 254.26% 156.53% 101.91% 157.59%
ELJP
71.50% 15.82% 17.37% 95.94% 47.37% 57.14% 97.51%
50.92% 1.76% 2.49% 85.39% 37.01% 47.82% 97.11%
30.37% −12.26% −12.37% 74.86% 26.68% 38.51% 96.72%
UNUS
208.04% 149.24% 231.65% 192.47% 144.61% 86.92% 210.03%
183.22% 131.01% 217.12% 181.60% 134.37% 76.67% 209.41%
158.46% 112.83% 202.63% 170.76% 124.15% 66.44% 208.79%
ELUK
180.22% 138.49% 230.21% 199.84% 167.85% 151.18% 61.28%
159.53% 124.57% 222.23% 192.60% 161.93% 146.10% 60.95%
138.89% 110.68% 214.26% 185.36% 156.02% 141.02% 60.63%
EPFR
560.00% 377.94% 398.18% 458.39% 463.12% 362.61% 507.47%
518.05% 349.51% 367.05% 439.82% 450.80% 340.07% 506.26%
0.2% transaction costs 3078 2075.69 2171.67 2763 2834.41 2052.78 3264.54
476.19% 321.13% 335.97% 421.29% 438.51% 317.58% 505.05%
EPGR
185.02% 123.93% 190.13% 221.04% 227.87% 251.65% 13.98%
164.24% 115.13% 175.50% 211.87% 218.61% 245.28% 13.75%
143.50% 106.36% 160.91% 202.72% 209.37% 238.93% 13.52%

ELHK
HSI
138.84% 95.76% 161.30% 156.81% 110.72% 126.86% 118.40%
114.54% 77.98% 145.79% 145.22% 100.09% 119.26% 117.97%
90.29% 60.24% 130.32% 133.66% 89.49% 111.68% 117.53%
NKY
13.28% 24.96% 53.71% 19.84% 16.60% 40.60% −3.79%
0.1% transaction costs 536.44 3539.53 9690.66 2867.84 2289.54 7324.87 −792.76
2.70% 17.80% 48.73% 14.42% 11.51% 36.83% −3.99%
−7.86% 10.65% 43.75% 9.01% 6.43% 33.07% −4.18%
SPX
135.76% 108.73% 295.62% 229.45% 266.38% 233.38% 263.49%
101.87% 83.79% 279.58% 216.72% 257.40% 224.66% 262.76%
68.05% 58.91% 263.57% 204.03% 248.43% 215.95% 262.04%
UKX
No transaction costs −1052.62 244.43 2154.02 176.2 2542.97 3584.27 3453.53
−28.53% 6.63% 58.39% 4.78% 68.93% 97.15% 93.61%
−54.82% −10.45% 45.10% −12.26% 55.91% 87.58% 93.22%
−81.06% −27.48% 31.85% −29.27% 42.92% 78.02% 92.84%
CAC
135.14% 184.61% 258.90% 208.89% 322.03% 278.55% 159.74%
101.08% 161.38% 243.28% 196.48% 310.90% 268.98% 159.22%
67.10% 138.21% 227.69% 184.09% 299.80% 259.43% 158.71%
DAX
264.32% 223.76% 459.74% 420.43% 472.90% 454.90% 407.86%
224.32% 191.77% 435.93% 407.51% 462.61% 445.84% 406.84%
184.40% 159.85% 412.16% 394.62% 452.34% 436.80% 405.83%
(in contrast to Y. C. Chan’s 19-day moving average). This creates a ‘‘smoothing effect’’ which increases the overall profit,
especially when transaction costs exist. Such a new strategy is very useful in real life situation nowadays where there
is rising volatility due to a growing linkage between international financial markets. Furthermore, given the results (3)
and (4) above, our strategies are more effective on general equity markets, particularly when the moving-window size is
small. Investors should take note of these results if they wish to apply our strategies.
One can use our idea to construct his trading strategies. With the µ̂i (n) sign to change, an investor may wait four or
more consecutive days, if µ̂i (n) remains the same sign. Then, he changes his/her buying/selling position. Supposedly, the
longer µ̂i (n) at the same sign, the greater will the ‘‘smoothing effect’’ be. However, this would cause the strategy to lag
even further behind the actual stock/stock index trend. Possibly, it would reduce the profit and cancel out the ‘‘smoothing
effect’’ (especially when the stock price rises or falls for a number of consecutive days, see the explanation in Section 5).
Therefore, it is another interesting topic to explore in future. What is the optimum number of consecutive days over which
µ̂i (n) remains the same sign, then the investor changes his buying/selling position (i.e. the number of days that yield the
maximum profit).
Acknowledgements
We are grateful for the financial support from the PolyU, Hong Kong Internal Research Grants (Project # G-UA6V and
1-ZEAN) and PPR Funding, Hong Kong (Project # K-QZ1 W).
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Alternative trading strategies to beat ‘‘buy-and-hold’’

• We construct two new trading strategies.

3. The Shiryaev–Zhou index and its statistical estimation

µ = (α − 0.5σ 2 )/σ 2 = α/σ 2 − 0.5, (3.2)

Assuming 250 trading days in a year, the estimator of α on day i is:

α̂i (n) = 250r i (n) (3.5)

Thus, the estimator of the variance σ 2 on day i is:

σ̂i2 (n) = 250s2i (n) (3.7)

The estimator of the Shiryaev–Zhou index µ on day i is then derived:

5. Our trading strategies

(1) No transaction costs.

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