AdvancedMultiple choice
In the Engle–Granger test you regress one price on another and run a unit-root test on the residuals. Why can’t you use ordinary Dickey–Fuller critical values?
- ABecause residuals from a regression are never stationary
- BFitting the hedge ratio makes residuals look too stationary
- CBecause Dickey–Fuller tests only apply to returns, not prices
- DBecause the residuals have a known variance, so a test should be used
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Unit roots, spurious regression and the basis of pairs trading
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